Facebook’s Long-Term Problem

By James Kwak

Facebook went public a week ago, to great embarrassment. NASDAQ creaked under the strain and, more important, the price dropped from an offer price of $38 to as low as $27 over the next week as investors decided that Facebook wasn’t so exciting now that anyone off the street could buy it.

In the long run, this could become a footnote. (Remember all the criticism of Google’s IPO?) With over $200 million in profits per quarter, Facebook’s P/E ratio is still less than 100, which isn’t bad for an Internet company that dominates its market and hasn’t fully opened the advertising spigot yet.

In the long term, Facebook’s ambition is to succeed Google (or Apple, depending on how you see it) as the dominant company on the Internet. And that’s where its real problems lie.

The “buy” story for Facebook rests on the idea that it will become what non-technical people in the technology industry (most VCs, equity analysts, journalists, marketing people) call a platform. “Platform” is a poorly defined term in the technology world, but it roughly means “something that lots and lots of people depend on and that you can build other stuff on top of.”

Google is the closest thing we have to a privately-owned platform on the Internet. Everyone knows about Google’s dominance in Internet search. Google redefined the way we find things in the physical world—so well that it provides the maps for its arch-enemy’s flagship products, the iPhone and the iPad. When I arrived at Yale Law School in 2008, of the fourteen people in my small group, twelve used Gmail, and the other two soon switched to Gmail. Highly educated, twenty-something future law firm partners may not be the most representative group around, but they are one of the most valuable demographics. Google has so many deep hooks into people that the company can keep churning out more and more stuff, some of which makes money, as long as we’re alive.

Facebook wants to be this—and more. Its claim is that “social” is the key to the Internet: that when we do things online, we want to get the input of our “friends,” so we want Facebook embedded in everything we do; and so every website will have to pay Facebook for the privilege, or Facebook can serve us ads wherever we go.

The problem is that Facebook has already gone and messed up its core value proposition. At the beginning, the potentially great thing about Facebook was that you could use it to share personal information, stories, and photos with your friends, replacing the “new baby” email blast and solving a real problem that people face in our data-heavy world.

But Facebook no longer solves that problem, thanks to the 12% rule: on average, your news feed only shows you 12% of the items that your friends post. (Yes, that figure was originally reported as 16%, but now it’s down to 12%.) This means that Facebook is no longer a reliable way of sharing information. Instead, it’s turned into an information-consumption site: a place where you can giggle over the 12% of the stuff your friends posted that your other friends and Facebook’s algorithms are most giggle-worthy, but you can’t actually maintain meaningful contact with your real friends.

In other words, Facebook is the Internet’s #1 entertainment site.
What about the magic “Like” button, the glue that holds the social network together? Apparently, now if you “Like” something, you might show up as a paid ad in your friends’ news feeds (not the column of ads at the right). And there’s no way to turn this off. My first thought was: how is this different from Beacon, the much-maligned stealth advertising program that Facebook pulled under pressure? According to the Times, Facebook’s sophistic defense in court was that “it did not need consent because sponsored stories were actually ‘news,’ because all Facebook users were public figures to their friends.”

This is just another reason not to go around “Liking” commercial products—to go along with the more fundamental issue that there’s no particular reason to do so in the first place. Of course, lots of people will continue to do so because they enjoy it. But as any casual Facebook user realizes, the population is dividing into two categories: the people who really enjoy posting and “Liking,” and the rest of us who consume their content and occasionally comment on someone’s photo.
For most of Facebook’s hundreds of millions of “active users,” it’s just another content site: a place to waste a few hours (often in class) watching videos or reading funny articles. And that’s not much of a platform for anything. Sure, Facebook will make lots of money for lots of years. Facebook users are a valuable demographic (or they are for now, at least), and serving ads is cheap, so gross margins are high.

But for most people, Facebook is just delivering some laughs and smiles. That’s nice, as far as it goes. But it isn’t changing the world, much less the way the Internet works.

17 responses to “Facebook’s Long-Term Problem

  1. The Bond Man

    @ Professor Kwak: The giggles and laughs and the “likes” are analogous to the freshmen “pig book”, and no more significant for society at large.

    Facebook, please, you can have the “platform” and all the dumb crud built thereupon. Sorry, if I sound like an old, grumpy guy on this!

  2. Facebook is nothing but fluff for the advertizing industry, a social media site where granny can keep an eye on her offsprings, offsprings. Can’t afford to have them pass her in the nite, for she would feel totally naked around her peers. I know, I’ve been there.

  3. The only reason that spam still exists is some people actually respond to the stuff (otherwise it wouldn’t be profitable to send). The only reason that the Like buttons exist is that people click on them. If only these people would stop, we’d get rid of spam and …

  4. With the machinery of Capitalism being a “solved problem”, every company in the world wants to be an “everything” company that sells you life. Google, Apple, and Facebook lead the pack, followed by the laughable Yahoo and a chorus of supermarket-bank-insurance-comms combined outfits.

    Facebook really had the user base to nail this, but as you say devalued it too early and failed to add a value offering. This let Google grab first place, while Apple looks on with the cash in hand but not the culture to do this “people” thing.

    Facebook’s best bet in its own is indeed to cash on being an entertainment platform. They should buy Zynga while they can, and should cave filled that niche themselves already. The alternative would be to get bought by Apple, but for the fact that their cultures are diametrically opposed in every way.

  5. “Facebook isn’t liked anymore by some teenagers. As the novelty fades, they’re migrating to other hangouts, posing a problem for the social network.”

    “Cyber scams add personal touches. Facebook users tend to let their guards down, and thieves are taking advantage.”

    Los Angeles Times, May 31, 2012

    I am not usually this prescient but this was so obvious a blind man could see it coming.

  6. The people that use FB as a life journal will rue the day they were ever so unmindful of living in a glass house. Unfortunately, the greatest victims are the children and young adults in that playground setting into play their continuing status as prey for decades. Zucker has them figured out – and that is valuable for opportunists, just like dumbing down the masses.

  7. The Bond Man

    @ June, exactly so.

  8. I think youre right about them limiting the sharing aspect, I know a couple people that have commented on that. As for the IPO I wrote a piece taking about what others are not seeing in FB upside potential http://howtodaytrade.biz/is-facebook-still-a-good-investment/

  9. Something I never hear about these big tech companies is this: is advertising really their only revenue stream, or is there another, hidden one? I’ve always suspected that the mountains of data they collect are sold and create big profits for them. Even checking my spam, I see Emails that obviously got my address from somewhere even though I never respond to them or “usubscribe.”

  10. My touchstone on these “platforms” is what effect they would have on my life is they disappeared. If Google disappeared I’d lose a very useful search engine and mapping system that I regularly use. If Facebook disappeared I would not even notice it’s absence for days if not weeks. It adds almost zero value to anything I do. Similar with youtube – it’s fun, I put some videos there, but if it went poof, oh well.

  11. Sounds like facebook is the new television.

    TV is quite profitable…now imagine if all of TV were controlled by a single company.

  12. When you step into that house, you step in with your feet first. And a set of keys never hurts too.

  13. Well that is not the way I use facebook – I keep in touch with family and friends, post news and opinion that I care about, appreciate what others post.

  14. UBS DENIES PANTIES KNOTTED, FILM AT ELEVEN!

    http://marketday.msnbc.msn.com/_news/2012/06/08/12127449-ubs-may-have-facebook-trading-loss-of-350-million?lite

    Rollin’ rollin’ rollin………keep the F BOOK rollin’ RAWHIDE!

  15. Don’t Cash in your triple crown tickets.

  16. The F BOOK may have a slight problem relating to ad space not captivating the F BOOK user:

    http://marketday.msnbc.msn.com/_news/2012/06/05/12069407-facebooks-problem-ads-arent-grabbing-users-analysts-say

    F BOOK may turn out to be another AOL.

  17. Facebook in all probability, has reached its highest point of popularity.

    Kids are already moving away from FB, it’s the social network of their parents. It lost it’s cool some time ago and it’s becoming so totally commercialized that FB is the opposite of cool. Add in the fact that FB uses everyone’s private data to make money and it’s a no-brainer.