Facebook is having a no good very bad summer.
The Facebook IPO was a disaster. According to the New York Times, a Facebook shares continue to slide. Yesterday, they dropped to $20.88, about half of their original value. Dalton Caldwell speculates that tumbling stock prices have put pressure on Facebook executives to generate revenue, fast. On August 16th, Facebook employees will be able to sell their shares for the first time. The probably consequence is absolute chaos and an increased volume of shorts and puts. Although Bernstein Research analyst Carlos Kirjner’s new valuation of the stock hovers around $19, with long-term growth at $23, Facebook and Wall Street are bracing for a crash landing. That metaphor may be a little off, as shareholders are likely pressing the eject button, not fastening their seat belts.
The decline in Facebook’s stock value has a lot to do with missed expectations and low confidence in future growth than real performance. Facebook reported a second quarter revenue of $1.18 billion, which actually beat estimates. And the site continues to grow its user base, up to 955 million from 901 million. Yet, advertising revenue growth has been declining. If Facebook has done a poor job capturing advertising value thus far, the transition to mobile platforms is even more problematic. Between March and June, Facebook saw a 23% jump in mobile traffic. Beyond basic analytics collection issues that trouble most mobile applications, Facebook is staring down unique challenges. As the Times points out, small screens are not sympatico with an advertising rich Facebook interface. Whereas the web platform includes seven ads per page, the mobile interface advertises via sporadic “Sponsored Stories,” Red Orbit reports. Users who are suspicious of advertising on a web browser platform are even more resistant to advertising interpolated into the mobile experience. Facebook’s failure to monetize its first iteration bodes poorly for its advancement in mobile markets. Investors are extremely skeptical that Facebook will be able to figure it out, at least before it’s too late.
Worse, startup Limited Run has accused Facebook of artificially increasing ad click-throughs. Limited Run asserts that 80% of their advertising clicks were generated by bots. While Limited Run cannot identify the agent behind the false clicks, company representatives alleged that Facebook failed to adequately respond to their advertising concerns. The Limited Run incident is just the latest in a string of public relations scandals, including Facebook’s silent change of user profiles that altered visible email accounts to an @facebook.com extension. Facebook has proved itself to be incapable of orchestrating smart and coherent revenue-generating initiatives; in the context of PR gaffes, confidence in Facebook cannot help but waver.
In May of this year, an argument began circulating among tech and finance pundits for “premium” Facebook services. Variations on “pay as you play” or “freemium” models were bandied about. Yet, Facebook seems averse to introducing paywalls of any sort, and the freemium concept has come under fire, too. Criticisms of freemium, however, do not advocate for the excision of premium services. Rather, they argue for the introduction of subscription fees for services like Twitter. Subscriptions would allow social media services to jettison advertising and all the nasty appendages of advertising that turn-off user engagement. Instead of finding value in user data and user-generated content, a subscription model finds value in a relationship with a client/customer.
There are obvious downsides to a subscription based revenue model. Perhaps most saliently, a service like Facebook would lose users if it suddenly implemented a subscription fee. The classical—and, I might add, simple—economics questions that follow are: how many users would Facebook lose if it implemented any level of subscription fee; and, what is the optimal subscription fee to maximize revenue, both from subscriptions and from advertising? Without access to Facebook financials—and more math-savvy than I am equipped with—the answers remain unknowns. I find it hard to believe that Facebook has not already considered the option of a subscription fee. To fall back on cliche though, desperate times call for desperate measures, and Facebook may need to pivot its brand image in order to avoid total collapse.
How much would you pay for Facebook? $1? In a hypothetical world where Facebook charges a $1 subscription fee, what would be the effect on revenue? Assuming that “monthly active users” is equivalent to “yearly active users,” and that charging any subscription fee (and specifically, $1) would cause 50% of users to jump ship, and that 5% of accounts are fake, Facebook’s subscription revenue would be around $430 million. Assuming that advertising revenue would decrease by 50%, Facebook’s revenue would be around $1.02 billion—and that is, in my opinion, a very conservative estimate, at a deficit of $160 million from current revenue. Nevertheless, it’s important to remember that a subscription fee would be a proving ground for Facebook that would boost investor confidence. Where advertising revenues are volatile, subscription revenues are stable. With a more dedicated and subscription-paying user base, Facebook could focus on improving the user experience and maximizing revenue extraction. Currently, Facebook’s revenue structure accomplishes the precise opposite. Sloppy advertising—the Facebook of today—damages the user experience and is an unpredictable, inefficient revenue source.
There’s still time for Facebook to turn its summer around. Heading into August, Facebook needs to reevaluate its strategy. With every maneuver made public and measurable on the stock market, little room for error remains.
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