Despite a rocky initial public offering, Facebook is increasingly demonstrating the ability to boost profits and fuel growth on mobile platforms. Nevertheless, the company faces new challenges, such as keeping younger users interested and expanding advertising without alienating customers, according to experts at Wharton.
In early November, when analysts were focused on Twitter and its initial public offering, Facebook reported strong third quarter results and highlighted its plans to grow its advertising base. The company also acknowledged for the first time that daily usage among teenagers was declining.
As if on cue with the concerns about teenager engagement, The Wall Street Journal reported on November 13 that Facebook offered to buy Snapchat, a social networking service popular with teens that features messages that are deleted quickly, for $3 billion.
In many respects, Facebook is a mature company that is managing costs as it grows revenue and becomes a must-buy ad property for marketers. “Facebook does seem like it’s making smart choices,” says Shawndra Hill, a professor of operations and information management at Wharton. The company “isn’t trying to do everything and is focused, yet flexible, should it need to change. You could call Facebook mature, or just smart.”
According to Kevin Werbach, legal studies and business ethics professor at Wharton, Facebook’s focus on execution and financial returns may partially stem from the company’s initial public offering, which raised billions of dollars but traded below its first-day price shortly after the stock’s debut. “The response to the Facebook IPO revealed that there is real skepticism about whether it has a future as a mature business. I would expect that one way Facebook management has responded is to focus on the operational aspects of the business,” says Werbach. “With over a billion users, even Facebook is hitting the natural ceiling for organic growth, so it needs to shift its approach to monetization.”
Many observers note that Facebook has multiple ways to make money through branding and direct response ads, analytics and mobile advertising. When announcing third quarter results, Facebook executives said they kept the number of ads for mobile users steady from the second quarter to the third quarter, but increased the site’s so-called “ad load” – the number of ads on a page. The company noted that of all the content in its News Feed, about 5% of the information was ads.
“The response to the Facebook IPO revealed that there is real skepticism about whether it has a future as a mature business.” –Kevin Werbach
For the third quarter, Facebook’s total revenue was $2 billion, up 60% from a year ago, with ad revenue of $1.8 billion, up 66%. Overall ad impressions rose 16% in the third quarter, and price per ad was up 42%. The firm also said it was able to increase its mobile ad rates and show more ads per user. As a result, third quarter mobile ad revenue was 49% of Facebook’s sales, up from 41% in the second quarter.
Despite the strong revenue numbers, Saikat Chaudhuri, executive director of the Mack Institute for Innovation Management at Wharton, warns that Facebook has to be careful that its growing ad load doesn’t alienate customers. “Ultimately, Facebook will need to find more subtle ways of engaging beyond News Feed ads,” he says.
Eric Bradlow, a Wharton marketing professor, notes that Facebook’s ad strategy is nascent, and he predicts it will become more targeted. “I see Facebook as a search engine and a targeted marketing engine. It has a great opportunity to do target marketing because what people’s friends do is likely very predictive of what they [themselves] will do,” he says.
Indeed, on Facebook’s third quarter earnings conference call, CEO Mark Zuckerberg previewed a future that revolves increasingly around search, specifically the company’s Graph Search based on information that is shared over time and friend connections.
The Youth Vote
While Facebook’s third quarter was generally impressive, the company acknowledged that it saw a decrease in daily use among younger teens during that period. The company is close to the saturation point with teenagers in the U.S., however, and monthly usage for Facebook among teens overall remains steady. During its earnings announcement, the firm indicated that it is developing new measurement tools to estimate usage by age.
How worrisome is the decline in teen interest? Experts at Wharton are mixed. On one hand, Facebook’s popularity among teens is critical to future growth. Nonetheless, Facebook has a massive user base that it can continue to engage and monetize.
Andrea Matwyshyn, a Wharton legal studies and business ethics professor, says that some drop off in teen usage is to be expected. “The shelf life of coolness in technology is short lived,” she notes. “Facebook isn’t going away anytime soon, and it could compensate for a drop off in teen use in the U.S. with expansion in foreign markets.”
The risk for Facebook, adds Matwyshyn, is obvious. It has to walk a line between being a mature cash cow and maintaining some level of being hip. Facebook has to avoid becoming the equivalent of an AOL email account, she notes. “You can naturally expect teenagers to gravitate to new places where there isn’t the incursion of lame people like parents.”
Werbach says that he would be “much more concerned if teens stopped using Facebook when they became adults.” According to Bradlow, the firm will likely have to come up with novel services that can keep teens engaged, because losing the younger demographics could be worrisome over time.
“Ultimately, Facebook will need to find more subtle ways of engaging beyond News Feed ads.” –Saikat Chaudhuri
However, Hill argues that there is no need to panic about youth engagement on Facebook at the moment. “In the long run, losing younger users could be an issue, but in the short run, Facebook has enough people to generate revenue for a while,” she says. “Facebook will have to stay relevant and reinvent, but it could simply acquire [other technologies] to handle that.” Yahoo’s recent acquisition of microblogging site Tumblr is one example of a mature company buying its way to a younger demographic, Hill points out.
Becoming Marketer Friendly
Experts at Wharton say that Facebook has become a must-buy for advertisers and that the company is responding with more tools and services to get a larger share of ad budgets.
“Facebook’s real advantage will be the information and analytics it can provide advertisers,” Chaudhuri notes. “It has enough information to piece together someone’s whole life picture.”
Facebook chief operating officer Sheryl Sandberg said on the company’s earnings conference call that Facebook has been investing in making ad purchases easier for marketers by focusing on their business objectives. For instance, one marketer could be looking for mobile engagement to sell a product, while another may just want to boost awareness.
“We are now getting to the point where our ad product support is really helping marketers to achieve their core business objectives,” said Sandberg. “I think the fact that we’re pivoting to focus on those end business results and making everything else, including social, part of meeting those business results is a really important part of our strategy.”
“You can naturally expect teenagers to gravitate to new places where there isn’t the incursion of lame people like parents.” –Andrea Matwyshyn
To push those business objectives, Sandberg added that Facebook has bolstered its analytics and ad systems to better target certain demographics (such as 35- to 44-year-old females), measure household spending and monitor response to brands. She acknowledged, however, that Facebook needs to broaden its advertiser base. Today, Facebook has one million active advertisers; yet, 20 million small businesses are currently using the social network for business but not buying ads. Those small businesses represent a lot of organic growth, said Sandberg.
Analytics are critical to advertisers spending large sums of money, says Hill. Information shared with advertisers will be a key battleground as Facebook and Twitter court customers. “Twitter and Facebook will have to pay attention to what brands want. Advertisers will want to measure the impact of what they are spending.”
Fortunately for Facebook, much of the focus on monetization and improved analytics may be directed at Twitter. “Twitter’s IPO for once takes Facebook out of the spotlight. Frankly, I think that will be a good thing for Facebook,” says Werbach. “Twitter and Facebook have many areas of overlap, but they serve somewhat different needs. There are still hundreds of billions of dollars that companies are spending on traditional advertising, which will move to online and social media as they mature. Having a successful Twitter in the mix helps to validate the whole concept of social media to advertisers.”
While many analysts are impressed with Facebook’s ad growth, not all are convinced that traditional online advertising will ultimately be the business model of choice.
For instance, Chaudhuri suggests that Facebook should migrate to offering various services to consumers as well as marketing partners. “Since Facebook is really social infrastructure, it can build a lot of services people would like,” such as a dating platform and human resources recruiting tools, he says.
Speaking on Facebook’s earnings conference call, Zuckerberg said that Facebook today is “very push-based” in that customers go to the network, and content is suggested to them. In five years, according to Zuckerberg, Facebook could be used more as a tool to deliver answers to important questions. “If we do a good job, we should be able to create more value through all of the knowledge that has been shared over time that we’re not really surfacing on a day-to-day basis right now — in terms of helping people answer a lot of different questions that they have,” he said. He added that the company’s first step was to index social connections and build infrastructure to navigate them. This effort, call Graph Search, has indexed one trillion connections between people, friend connections and content.
Zuckerberg’s underlying premise is that Facebook has to evolve further. “What’s clear is that we haven’t reached a dominant design for a social network yet,” notes Chaudhuri. “It won’t be sustainable to have all these different social tools to use. At some point, there will be a consolidated offering.”