Photo: Facebook S-1
Ever since the veil was first lifted on Facebook’s financials, second guessing its ability to grow into a reported $75 to $100 billion valuation has become something of a cottage industry.The main knock on Facebook at this point goes something along the lines of (a) revenue growth is decelerating and will never reach the levels necessary to justify the valuation, and (b) it’s not Google and never will be (or something to that effect).
It is true that revenue growth rates have slowed. In 2009 revenues grew a whopping 186 per cent, slowing down to 154 per cent in 2010, and finally 88 per cent last year. Part of this is natural, of course; as companies not named Apple grow bigger their revenue growth falls as the denominator rises. On the other hand, considering that total revenue only stands at $3.7 billion this is a bit worrisome. And yet, we don’t see this as a pressing cause for concern.
Last week we talked with an executive at a global media agency to gain a better understanding of advertising on Facebook in the the run-up to the IPO. What he told us was not only insightful, but led us to the alarming conclusion that Facebook may just be getting started.
He told us that budgets for Facebook campaigns are “increasingly rapidly.” However, a lot of that money is not making its way into Facebook’s coffers. Instead, he said it is being diverted into activities that we wouldn’t traditionally think of as advertising. Most of this activity is landing on brand pages, whether it’s a video that a brand hopes will go viral or holding a giveaway for its fans. In other words, Facebook takes no cut of the action, but is only providing the platform that facilitates it.
So Where Are They Making Money?
Facebook has been making the bulk of its advertising revenue thus far on display ads. Facebook is a behemoth in the display ad market, accounting for 27.9 per cent of U.S. display ad impressions last year. To give you some idea of its dominance, second-place Yahoo only garnered 11 per cent.
However, for a company with a ton of information about your personal life and interactions, Facebook display ads are remarkably unfocused.It’s still a huge business though because Facebook generates an incredible amount of page views for display ads (see chart to the right). It’s an open secret that these display ads are hardly the culmination of what Facebook’s platform—and its much vaunted social graph—are capable of.
For advertisers, the long-held promise of Facebook is the ability to leverage the platform’s deep social data to deliver highly-targeted content to engaged users. Tiny display ads away from user’s eyeballs (i.e. not in the news feed) were never going to deliver Facebook to the promised land.
Facebook Shifts Gears
However, in late February, Facebook released a suite of new products for brands that we believe unleashes the platform’s potential to advertisers for the first time:
- Timelines for brands: brand pages are being revamped to look like profile pages with the timeline and other social features to facilitate user interaction
- Reach Generator: a tool for brands to increase the audience for their message (brands currently only reach 16 per cent of their fans currently, Reach Generator will increase that to as much as 75 per cent)
- Premium For Facebook: a holistic content distribution product for brands advertising on Facebook: content that originated on the new timeline brand pages can now be advertised across the home page, the news feed, the mobile news feed, and even the logout page
Additionally, Facebook is now providing real-time analytics that will give brands near instantaneous feedback on their content and allows for flexible decision making.
The media executive told us the new products “made [Facebook] a more powerful tool for companies.” We believe they are going to be a blockbuster for Facebook, and it’s probably no coincidence they released them just before the IPO.
For the first time, Facebook has created a product that lets brands put their message front and centre. Not only that, but for for an audience that has already opted into the message. On top of this, the brands already possess amazingly detailed demographics about this audience. When you add it all up, this is an incredibly powerful advertising tool.
It was also a very shrewd marketing move. As the media executive told us, many companies use Facebook as a tool for building, monitoring, and managing a fan base. This is why much of the money from company’s “Facebook campaigns” is being spent on the brand page not display ads, which are more about “awareness building” in the executive’s words. Dr. Pepper, for example, garnered over 11 million Facebook fans without ever really advertising directly on Facebook.
Facebook previously hadn’t found a scalable way to make money off brand content; it just offered brands a free tool for engaging and building a fan base. However, with the new ad products, brands can now amplify their message by expanding its reach (via Reach Generator) and placing it front of an engaged audience (via the new ad products). In other words, by charging brands to spread content across the site Facebook believes it has found the formula to take its revenues to the next level.
The Bottom Line
- Yes, Facebook’s revenues (especially advertising) are decelerating, but do not panic.
- Display ads form the bulk of its advertising revenues. It is a good business, but not the one that will take them to $100 billion.
- Facebook’s new ad products, focused on generating revenue off brand pages, is the business it is banking on to grow into its valuation
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