I’ve been up to my armpits talking about Facebook for most of this month, and maybe because I’munusually dense, just realized that Facebook is a new kind of dot-com. By this I mean its revenue andprofit are based on a series of false beliefs.
Unlike the first dot-coms, which failed, Facebook does haverevenue and profit, but just like them it has been built on a stack of false assumptions that I think –if they actually had thought through — would have had advertisers and investors questioning whetherFacebook was worth US$1 million let alone $100 billion.
I’ll walk through why I think Facebook is a fraud, and I’ll close with my product of theweek: what may be the best cellphone deal on the planet.
Foundation of Fraud
A fraud is a wrongful or criminal deception intended to result in financial or personal gain. Nowthe “personal gain” part is a given; the initial Facebook investors, banking underwriters, and MarkZuckerberg in particular made out like bandits — maybe literally — from the IPO.
Of course, the rank andfile who massively bought Facebook stock at $42 and watched it crater over hours and days to $32 — where it is as I write this — didn’t do quite as well. Losing money can be evidence of a fraud, becausethere needs to be a financial transfer between the folks who are allegedly committing the crime and thevictims. For those who invested in Facebook, the “victim” title likely has a lot of resonance.
So out of the gate we have two elements we need to prove a fraud: Someone made a ton of money atthe expense of someone else. But the third critical element is whether the buyers were misled. Let’sget to that.
How Many Facebook Users Are There?
The number that is officially tossed out is 1 billion users, and there are 1 billion people who in some way come intocontact with Facebook. But the implied assumption is that this 1 billion is connected to making a profit, andthere lies the rub. However, the person being misled, which makes this interesting, isn’t the investor — itis the advertiser.
Stop for a moment. Name one ad you have ever seen on Facebook? Just one. Now if you can, andmost I’ve spoken with can’t, name one time you have actually bought something based on that ad. I’vebought things after seeing Internet ads, TV ads, magazine ads — but I’ll bet even if you remember seeing aFacebook ad, you haven’t ever bought anything based on it.
Now let’s back up one more step. How often do you really go to Facebook as opposed to interface withit using a social networking application or aggregator on your smartphone, tablet or PC? If you are likeme, this is almost never. I touch Facebook most of the time from my smartphone, Tweetdeck or Seesmic(a really great posting tool, by the way). So even if Facebook had full page ads that were 100 percent effective,I’d almost never see them.
The numbers I’ve seen suggest there are really only about 250 million people who actually go to Facebook and can see ads. The number of people who actually do see them is probably less than a tenth of that — we’ve learned to tune ads out, and Facebook’s are very subtle — and of that fewer than 25 million, just a tiny numberconvert.
This suggests that advertisers are massively overpaying for Facebook advertising, and General Motors is one of the few companies that have figured this out. In fact, there are some interesting thingsthat come up when you search “Facebook ad fraud.”
So, a tiny fraction of the 1 billion people Facebook talks about actually see advertising and use it, and I’ll betconfirmation will emerge shortly that Facebook knows this. Given that GM caught on, I’ll bet a large number ofthe existing investors, along with Mark Zuckerberg and Morgan Stanley, know this as well.
There was a well-researched study last year that clearly indicated that Facebook was worth a fraction ofthe $100 billion the company was pushing. Apparently, too few of us read it — but I’ll bet Facebook folks did.
Insult to Injury
Now, it isn’t just that people aren’t consuming the ads — there is another false belief out there. It isthat given Facebook knows a ton about you, it should be able to present ads you are interested in. Ijust posted pictures of my new car last night; I also post on tech things I’m writing about. Now let’s look at theads I’m getting.
Top of the list is a special from AT&T U-verse. Great — that might work, except AT&T U-verse isn’t offered inmy area, and Facebook sure as heck has my address. This is followed by an offer for a crappy refurbed AT&Tphone. Really, they think someone who reviews tech products would be in the market for a crappy refurbedphone?
Here are some of the others: There is a gout study for folks who have gout (I don’t); there is a service to meet older women (think my wife would object to my using it); and a Men in Black ad that gives me a chance to get a sneak peek at The Amazing Spider-Man. Wait, what?
Not a single one is a car offer, and there is one tech ad (refurbished phones), but it isn’t the kind of tech that I’d be likely to buy. In short, Facebook isn’t actually using any information that apparently everyoneelse sees to serve up more successful ads.
Is Facebook a Corporation?
Facebook is marketed as a corporation, but it uses a unique format that lets Zuckerberg exclusivelycontrol the company. In short, it isn’t really a corporation as we would think of it; it is more like a limitedpartnership in which the limited — and virtually powerless — investors are represented by a powerless board.
I would think a structure like that would need to be fully understood by investors, because they shouldfully understand the risks of having a 28-year-old-billionaire in charge without real oversight before investing.
We did get awarning when Zuckerberg used investor money to buy Instagram, a tiny company, for $1 billion, as if it wereout of his own pocket — no corporate oversight or board involvement.
Facebook is presented as a public corporation, but in structure the controls that are typically around aCEO don’t seem to exist. That would suggest folks didn’t invest in a well-managed company; theyinvested in a 28-year-old who makes billion-dollar impulse buys.
Wrapping Up: Facebook Fraud
The dot-com market was based largely on the fact that a ton of folks got excited about the Internet andbelieved, thanks largely to Netscape, that it was a gold mine. Turned out it was fool’s gold, and evenNetscape no longer exists.
Now, more than a decade later, Facebook has discovered and renamed that samemine — but even though it has now convinced advertisers that this is real gold, it is no more real nowthan it was then. The ad value that founds this company’s revenue simply isn’t there. Yes, advertisersare paying money, but the value they think they are getting isn’t there any more than it was in the dot-comyears.
Facebook’s CEO has apparently always thought that users were stupid — not exactly the word he used. Just as apparently, he has translated that belief into a ton of cash, because we weren’t able to figure outquickly enough there really wasn’t a fire under all that smoke. I have a feeling that is changing, and thatwe’ll soon find that Facebook knew it was selling fool’s gold and not the real stuff.
In the end, had investors made money, I doubt much of this would initially matter — but Zuckerberg gottoo greedy, and he and his friends made all the money while other investors lost it. It looks like a fraud,it smells like a fraud, and we’ll have a ton of folks now working to prove it was a fraud.
This is whereZuckerberg’s control could come back to haunt him, because I expect these folks will use it to drill rightthrough the corporate veil and nail his personal estate. Given what he seems to think of us, I can’t helpbut think that will be poetic justice.
I’m reminded of the famous quotation from President George Bush “FoolMe Once etc.” We may not all be the brightest bulbs in the box, but that doesn’t mean we arepushovers either. I think Zuckerberg’s going to learn the Bernie Madoff lesson — that taking advantage oftrust has a very high cost at the CEO level.
Product of the Week: Straight Talk
Every once in a while, I just accidently run into something that sounds too good to be true but isn’t. Iwas chatting with Cyrus Farivar over at Ars Technica on how prepaid data plans were becomingmore popular in the U.S. than the postpaid plans we currently use. The reason is that folks are justgetting tired of paying $90-plus a month for every phone, and prepaid plans are much more affordable.
Buthe had recently run into a prepaid unlimited plan from a company called Straight Talk that uses AT&T’snetwork that is pretty impressive. For a $45-a-month domestic or $60-a-month international plan,you can get unlimited everything. They also have a $30 a month 30 MB plan, but that isn’t enough data.
You can’t even get unlimited plans on AT&T anymore, and Straight Talk uses its network, which suggeststhis might not last forever here either. You can also buy the national plan for a year — prepay it — and getwhat amount to a free month. Walmart markets this, or you can go to its Web page. There is nocontract — no refunds either, though.
If you buy unlocked phones anyway or own your own phone, this is one hell of a program. You canbuy phones from Straight Talk, but realize they are basically unsubsidized, so you might as well shop for theunlocked phone you want. You’ll need something that works with AT&T’s network, butmost European phones do, and that means you can get an unlocked phone from Europe. I’ll be using theunique Nvidia Tegra-based HTC One that does tethering. You can have a phonethat almost no one else in the U.S. has.
So, if you know what you are doing, you can get both exclusivity anda very cheap price. Think about how much money you’ll save if you give one of these plans to your kids.
The forums do suggest that if you are using 5-6 GBs a month or more, Straight Talk will likely throttle you.This is a prepay program, so you pay up front — not at the end of the month — so this isn’t quite as good asit might seem. Remember, it is using the over-capacity AT&T network. Still, given the savings, I’m makingStraight Talk my product of the week.
Hasn’t anybody figure out that the only winner in Facebook’s IPO is Facebook and Mark Zuckerberg? Who else really makes money on this? Sure, I think some were short sellers who thought the price would go up and not down and they would make a killing. But the jokes on them. It really did not take anybody too long to figure out that Facebook’s business model is flawed and very much reliant on ad revenue. When GM came out and said it was dropping Facebook ads and then surveys indicated that users don’t click on ads or trust Facebook for purchases. I think the writing was on the wall that Zuck had problems.
While that might be semi-true, are you saying there are not car insurance companies, or car accessories, etc. that are in the ad loop? No, the truth is that they claim they "target" you with better ads, but everyone claims that, and its always the same crap, for everyone. The closest they ever get to targeting is "age range", and I doubt it would take much more than letting your 80 year old father post something for them to get really confused and start sending you ads for Depends, or a long list of other products for people that are that age.
BTW, as a side note, the co-founder probably already figured out that his ass is going to be grass (and that his partner is the idiot), isn’t he the one that renounced his citizenship, and hoarded all his money in a foreign country, to grand praise from Tea Party idiots, just before this blew up and people started investigating for fraud? Dear of Zuk should have done the same, he might have escaped the coming tsunami about to swamp him as a result of this (or at least made it harder for anyone to get their money back, even if the country he went to decided to extradite).
While the premise of this opinion may have some merit, most of the issues identified are because of how Facebook is handling things, not about what their real potential may be. Fraud is a very strong word, and in this case, I think it has little basis to hold on to.
I have often said that Facebook will need to change their advertising methods in order to make real money from their user base. They have to date used what I characterize as a closed-limited model. As observed in the article, they only post ads when you use the web based version, and are missing all the other interface methods. In addition, they have not used their user network, and its information, for placing ads external to Facebook’s web site. If they changed one, or both of these, they would surely see their revenue increase dramatically.
The same argument goes if they really started using the targeted information to their best advantage. How much information do they have on you? Well, I for one was shocked when I saw the timeline information that they had on me! It was not all even sourced from me, but was an AM algamation of all of the posts of pictures and events I was tagged in. They knew practically every vacation I had taken, when my children and grandchildren were visited. They even had information on a lot of my business travels (most of which should be confidential). They also know where I work, what I have "liked", and a lot about the toys I have bought, or that have been bought for me. If they were to tap into this is a meaningful way, they could surely send me a steady stream of interesting ads.
Heck they wouldn’t even have to make it hard on themselves. In the same posts they give for alerts, they could add headline teasers that, if matched to my profile, would surely cause me to click a time or two to see what deals could be had. They could easily add links auto-generated to my, and my friends posts to "explore similar items". So that post my wife just did about our visit to a Sonoma winery, well it could be linked to other wine related links, that I unfortunately, would surely explore…
So in short, they have barely scratched the surface of their revenue potential. If they are smart, they can become more profitable in a very short time frame.
Thank you Rod for an insightful article. You are absolutely right on all counts. I can’t believe the market doesn’t see this. There is an unfortunate financial market impression that facebook will emulate Google, hence justifying this ridiculous valuation. But referring to your car example, all I can say is "exactly!". When was the last time you went to facebook and typed in "car" or "ford"? That’s right – never. The value in google is that users do this, creating a context to deliver the appropriate ad, resulting in revenue. Not so in facebook. According to facebook, we’re all overweight middle aged woman who need diet advice, anti aging cream and a new ‘work from home’ income stream. My guess at the real value of Facebook is more like $15 billion, based on current advertising revenues, their ad sales trends and a comparison with google. That said, I have not written Facebook off yet. Two things they could do 1) Charge for access and hope for user loyalty 2) Buy Bing, or Yahoo, or both then they can add a search bar and sell contextually accurate advertising. That may be worth plenty if they got it right.
It is potentially more interesting and suspicious to look at data about people who actually do see and CLICK on Facebook ads.
In short, there are a small number of people on Facebook who regularly ‘like’ dozens of ads a day, often 4 or 5 at a time, adding up to hundreds or thousands of likes per year…in other words, they click roughly a thousand times more frequently than most people click. I called them ‘booklicants’ at first because I thought they were bots, but now I realize they are real. That means Facebook is making a lot of advertising money from a very, very small number of users…and if my experience is any proof, once advertisers find out, they stop spending money on Facebook.
Importantly, the company is not informing advertisers nor investors of this fact – to the contrary, they claim that their ‘socially relevant’ ads are somehow _more_ valuable than regular display ads. That is a false assertion based on my research. See this blog posting for more detail and rough estimates of the potential scope of the problem: http://wahanegi.com/do-not-advertise-on-facebook-until-you-read-this/.
I never have clicked on any FB advertisements nor have read any in detail. But another interesting point I’d like to make is about Google ads. I always only clicked on Google ads above the results. I never see or click on the ads on the right hand side. I AM not sure how much of this is true but google is widely used so statistics may prove that they are in fact being used but something to think about. And if it is true that people don’t really use the right side ads, then I guess advertisers don’t really care if someone clicks through as long as their ads are on the most used search engine.
To their defense, why would they selectively advertise cars to you if you had just posted pictures of your new car?