A Reality Check on Facebook’s Oculus Purchase

Oculus

Since Facebook announced last week that it is buying virtual reality startup Oculus VR for $2 billion, questions have circulated about the wisdom of the deal. Critics say Facebook has no experience in gaming or virtual reality, and that Oculus could have found other suitors with a better track record in that space. Wharton experts Kevin Werbach and Kartik Hosanagar, however, feel the deal makes sense and provides Facebook with a new platform for growth in connecting people globally.

The Oculus Rift virtual reality gaming headset is the invention of 21-year-old Palmer Luckey of Long Beach, Calif., a self-taught engineer, hacker and electronics enthusiast. He started out working in his home garage to create a head-mounted display that was both affordable and superior to competing products. The Rift claims to provide an “immersive experience” that mimics normal human vision with a seven-inch screen, a field of view of more than 90 degrees horizontally, and reduced latency and motion blur. Over 18 months, Oculus has raised $91 million, including $2.4 million from 9,500 backers on crowdfunding site Kickstarter, and sold some 75,000 development kits to software developers. A consumer version of the Rift is expected in late 2014 or early 2015.

Many are unhappy that Oculus is selling itself to Facebook, including several of its backers on Kickstarter who say they feel let down. After the deal was announced, Swedish video game developer Markus “Notch” Persson, creator of the popular Minecraft virtual environment, tweeted that he has canceled a deal to bring a version of Minecraft to Oculus. “Facebook creeps me out,” he said.

Other critics note that it is disconcerting to see a device like the Rift in the hands of a company with almost no experience in gaming hardware or software. But Facebook founder and CEO Mark Zuckerberg is convinced he made the right bet. “Oculus has the chance to create the most social platform ever, and change the way we work, play and communicate,” he stated in a press release.

“This is clearly a case of Mark Zuckerberg skating to where he thinks the puck is going, rather than where things are today.” –Kevin Werbach

“Facebook buying Oculus was a shock, and not just because of the price,” says Werbach, a Wharton professor of legal studies and business ethics. “While Oculus was a hot company because of its huge success on Kickstarter and the sexiness of virtual reality, no one really anticipated the connection to a social network.” Citing a famous quote by Wayne Gretzky, the former professional Canadian ice hockey player, he adds, “This is clearly a case of Mark Zuckerberg skating to where he thinks the puck is going, rather than where things are today.”

Going with the Tide

As Oculus VR said in a blog post, “At first glance, it might not seem obvious why Oculus is partnering with Facebook.” However, the company explained that it sees a cultural alignment where both firms view virtual reality as the “next step” in creating “a more open, connected world.”

“Facebook is ultimately a platform company,” says Hosanagar, a Wharton professor of operations and information management. “For Facebook, the opportunity is that of building a new platform. After the PC, we have seen two new computing platforms emerge — smartphones and tablets — and Apple and Google rule those. For Facebook, it is important to track other emerging platforms and play a dominant role there.” Zuckerberg, too, describes the Oculus Rift as “a platform for many other experiences.”

According to Werbach, the Oculus purchase also reflects the grand sweep of Facebook’s ambitions. Facebook’s core business is connecting people, capturing their attention and monetizing the resulting communication,” he says. “With over a billion users, it thinks at planetary scale, so it’s always thinking about new ways that people will interact and form communities. That was behind the WhatsApp deal, and I think it’s behind this one as well.” (Facebook bought messaging service WhatsApp in February for $19 billion.) “We have already moved from a fundamentally PC-centric Internet to one that is increasingly mobile device-centric. Facebook was late on the transition, but it has made it successfully.”

Facebook may also be seeking the buzz generated by products like Google Glass, a wearable computer with a head-mounted display that responds to voice commands. A Forbes blogger’s headline notes: “Move Over, Glass: With Oculus Acquisition, Facebook Out-Googles Google.”

Virtual Income

“Over the next decade, two clear trends are: everything becoming connected — the ‘Internet of things’ — and interactive experiences becoming richer and more immersive,” Werbach adds. “By acquiring Oculus, Facebook is buying an option on deeply immersive interactivity.”

According to Hosanagar, the Oculus purchase also allows Facebook to mature as a company and find other market opportunities to pursue with the cash at its disposal. Facebook currently has $11 billion in cash reserves. “No one could have predicted that a search engine like Google would be selling glasses, or that an operating system company like Microsoft would sell gaming consoles,” he says. “As these companies grow and look for new market opportunities in which to deploy capital, it is natural to tread into newer areas. We are also witnessing Facebook going in that direction.”

Would Facebook want to sell the Rift as a gaming system, or make money through in-game ads in virtual environments? According to Hosanagar, Facebook’s main business model with Oculus could be one where the company earns revenues as a percentage of sales for all apps sold on the platform. In addition to gaming, he lists medical, education and military apps using virtual reality as other opportunities. However, he sees those as more likely avenues for other virtual reality firms with a strong business-to-business focus rather than for a consumer-oriented company like Facebook.

“It’s still too soon to say that the time has come for virtual reality.” –Kartik Hosanagar

Virtual reality in some form has been around since the earliest days of the web when there was a push to extend web browsers to include a 3D modeling language — Virtual Reality Modeling Language, or VRML. But that had limited adoption. According to Hosanagar, VRML was ahead of its time. “It’s still too soon to say that the time has come for virtual reality,” he says. “While Facebook’s acquisition is creating hype, there are still very few units sold for these kinds of headsets.”

“Virtual reality is one of those much-hyped technologies, like speech recognition and artificial intelligence, that have been kicking around for decades but never realized their potential,” notes Werbach. “The fact that these advances were promoted too early, however, doesn’t mean they won’t take off under the right conditions.” He feels that as hardware gets cheaper and more miniaturized, virtual reality will become a significant component of the online experience. While he expects gaming to be the first arena in which virtual reality will catch on, he adds, “the ability to participate in an immersive, 3D, social online environment has countless applications.”

An ‘Aggressive Bet’

Even if the Oculus buy is well advised, Facebook faces challenges in promoting the device. “I have an easy time making the case that Facebook has a strategic vision here, but a much harder time justifying the timing and price,” says Werbach. “It’s an aggressive bet, which may or may not pay off. The kinds of people who were excited about Oculus as an independent upstart with roots in the games world are not necessarily going to be excited about being part of Facebook. Facebook will have a real challenge in retaining the confidence of the Oculus team and community over time. It can be done — there were similar questions when Google bought YouTube, for example — but it’s a hard management challenge for Facebook.”

From the Oculus standpoint, being part of Facebook affords the startup the opportunity “to scale up and change the world,” says Werbach. He likens it to Android evolving from an innovative startup to the dominant platform for mobile devices globally as part of Google. “But there’s also a huge risk that other startups will occupy the pure-play virtual reality space, now that Oculus is part of a larger entity.”

Werbach points to some longer-range issues as well. He says there are “big questions” about how long it will take the market to mature, and how social dynamics will evolve to support virtual reality the way people are now comfortable with social networking. “We’re probably still a few years out from the hardware being small and cheap enough for real mass adoption, so there’s plenty of time for this acquisition to fail even if the strategic vision was correct.”

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