Facebook and the ‘The Emperor’s New Clothes’

Posted on July 30, 2012


For those who were not blessed with escaping into the world of Hans Christian Andersen in their youth the title may come across as somewhat cryptic, further enlightenment available at Wikipedia.

On reading the BBC’s article ‘Facebook: The challenges ahead for the social network’  I felt that the substance of the piece was rather dancing around the true core of the problem that faces Facebook and in part many start-ups and the investor community at large that prop’s these up.

The venerable experts warnings are a drum roll to a very long list of challenges facing Facebook as a business and a technology company.

The privacy and security issues particularly concerning to Facebook’s business, but a smokescreen to a more generic underlying rot that is symptomatic of too many IT specific Start-Ups and new IPO’d (Initial Public Offering) entities. Rot that in blunt terms transmutes good sound focused commercial opportunities with world domination agendas of Austin Powell proportions, funny if the implications on the individual investor were not so serious.

IPO’d entities that go on acquisition feeding frenzied binges. Binges that convert disciplined profitable businesses into rambling lossmaking entities, leaving investors with the worst kind of hangover. Hangovers and addiction because some of these IPO’s are so big, they are treated like the banks during the recent crisis as too big to fail, and commence a slow poisoning of the well every time they go back for more.

The problem is a moral one; the shift from a founder backed business model to one based on other people’s money. From the sanity of what a business is fundamentally about – the purchase and sale of goods and or services in an attempt to make a profit – to the vanity business model that is purely Revenue focused and in Facebook’s case arrogance that does not even commit to proper forecasting!

Firstly Facebook’s is the epitome of the new generation ‘Vanity Business’. A category of business pumped up by the market makers who conduct the Casino Investment with other people’s hard earned money that this model feeds on. Casino investment of a similar character that fostered the banking crisis whose shockwaves are still being felt across the world, driven by individuals who take disproportionate fee’s for risking other people’s money, fees paid whether the investor wins or losses.

If we apply this to Facebook’s $104bn flotation in May it would appear the company has reverted to this parasitic trend of third party funded public entities, Revenue vanity over Profit sanity. That such a disproportionate valuation set’s a totally unrealistic expectation at the outset, and as we are seeing stimulates comparably cavalier business practices, hoping to strike a rich vein.

This perspective was all speculative until the facts were born out in Facebook’s first earnings report , see the Facebook’s first financial results announcement.Symptoms of the corruption are in stark black and white:

  • · Exponential increase in Capital Expenditure = 213%
  • · Exponential increase in costs of = 295%
  • · Operating profit margin decrease = drop of over 10%
  • · Exponential losses = Swing from net income of $240m to loss of $157m, that is almost $400m!!

The BBC article is somewhat lost in the detail, it does not raise the spectra that Facebook is an entity with an unsustainable core business model. Having pulled off a multibillion dollar confidence trick it is now attempting to buy its way into profit. The shock is that it is achieving the opposite at the moment, which must put the CEO’s head on the block.

Any company with the investment injection that Facebook has just achieved has little excuse not to be making profit. If they had done little more than put the funds on deposit and continued business as usual they would be better off!

Like many tech start-ups when there is serious business to be done, you need business competence, techies need to step aside. The fly in this particular ointment is the fact that BILLIONS of dollars have been invested in a company for a minority stake!

Secondly Facebook’s core business is founded on a factor that is going to constrain if not kill its original service offering – data and personal privacy protection.

It is in a line of business that is likely to become so regulated and legislated that it will become a compliance minefield, sapping profitability and the very agility this market niche demands for survival.

I agree with much of what the venerable experts whose comments are a drum roll to a very long list of challenges facing Facebook as a business and a technology platform. With particular empathy for the security and privacy points that I have echoed in blunter terms in many of my earlier blogs so cast your browser back, particular reflections I would suggest:

Conclusion … so far

At the moment the business is flawed, floundering and visionless. On a short term event horizon to oblivion unless it can re-invent itself. Even the core advertising model is being thrown into question ‘Why GM and Others Fail With Facebook Ads’

Big is not always beautiful, and great success can be achieved focusing on getting the core right before building out dependencies, Facebook’s data protection challenges is the dirty bomb sitting in their basement. If the bomb goes off the whole house will come down.

The future is by no means clear; what will be in the sequel to the Facebook volume 1?

Will we find out in the sequel what the Emperor was wearing? Assuming death by ‘privacy’ exposure does not strike first!