March 24, 2018 1:47 am
Mark Zuckerberg would like everyone to calm down.
After several days of a heated public outcry over a British political consulting firm’s use of data from millions of Facebook users to help elect President Trump, the Facebook CEO said on Wednesday that the social media behemoth had a technical solution in place.
In an interview with CNN, a contrite Zuckerberg vowed to mount “a full investigation” of thousands of apps with access to wide swaths of data “before we locked down our platform in 2014.” He said he was open to testifying before Congress, and some form of regulation.
“There will always be bad actors” trying to misuse the platform, his No. 2, Sheryl Sandberg, told CNBC. “We are taking aggressive steps to be more transparent.”
Whether such steps will be enough remains to be seen. Facebook (ticker: FB) may be counting on changes that affect all social media platforms, leaving its market share relatively intact.
But with more than two billion users, Facebook is the top target for privacy concerns, and it is almost certain that the company will not walk away unscathed. Pressure by lawmakers and regulators in the U.S. and Europe, unease among advertisers, and anger among its users means that the company’s galloping unfettered ride on the back of user content and data is over.
“We overinvested in new services and underinvested in building protections,” Elliot Schrage, Facebook’s vice president of communications and public policy, tells Barron’s.
“The challenge is how quickly and effectively” the company can make changes, he says. “How hard will it be?”
For investors, the question is whether the company can adapt without undermining the advertising model that has powered years of extraordinary growth. There is considerable doubt at the moment. Shares of Facebook slumped 14% last week, erasing $75 billion of market value. But the decline may make Facebook shares only more tempting to investors. (See “Facebook Shares Look Like a Bargain.”)
Facebook says it is increasing efforts to work with government officials, industries, and experts to take on hate speech, child pornography, and other unsavory digital content. The company is also building more controls for users to monitor content.
But those efforts are likely to increase costs and, in turn, constrain growth in the short-term. Deutsche Bank analysts have noted that political scrutiny, including regulation, “could ultimately impact Facebook’s ability to gather and deploy data for ad targeting, which has been critical to ad efficacy and budget growth.”
Should Facebook end up having to hew to more traditional advertising rules, it runs the risk of becoming just another media company, losing its appeal to advertisers who flock to Facebook for both its enormous audience and its ability to slice that audience into finely targeted groups.
Is Facebook up to the challenge?
In the next month or so, the company will roll out a tool at the top of News Feed with a list of recently used apps and an option to revoke permissions to user data. Such a tool is already available in privacy settings, and it is essentially making it more prominent to ensure users are aware.
Zuckerberg has acknowledged that sites like Facebook may need regulation, telling The Wall Street Journal that “there’s no reason why the internet advertising industry should have a lower transparency standard than print or TV ads.” He has pointed to his company’s push for ad transparency tools, saying that they accomplish much of what Congress is seeking in such bills as the Honest Ads Act.
But under pressure to lock down data, Facebook risks watering down its special sauce to placate irate users and regulators.
“This would be a slippery slope to go down as the more regulatory oversight and tinkering with this model, the more risk there is for investors that advertising revenue becomes a victim of these efforts,” says Daniel Ives, head of technology research at GBH Insights. “The more hands in the pot from a regulatory perspective both in the Beltway and the EU around Facebook and its ad model, the risks rise for investors.”
Ives warns that Facebook is at risk of losing anywhere from $5 billion to $7 billion in annual revenue depending on changes to its products. He based his analysis on lower engagement trends, slackening user growth in 2018-19 and up to a 10% loss in advertising revenue. Regulatory pressure could exacerbate matters, he says.
Facebook, of course, is no stranger to controversy. But it has increasingly come under fire over user privacy and the company’s role in the 2016 election.
Billionaire George Soros has called the company a menace to society and Salesforce CEO Marc Benioff said it should be regulated like a tobacco company. Unilever (UL) has threatened to pull ads unless Facebook cleans up content. A group of former employees and investors have formed a group to combat what they claim are its ill effects on society.
“They didn’t see it coming,” Antonio García Martínez, a former Facebook advertising executive and author of the book Chaos Monkeys, told Barron’s before the latest controversy, “and that has led to a lot of internal turmoil at Facebook.”
“They’re horrified they were responsible for the Trump presidency.” Among the rank and file, he said, “there is tangible anger.”
The news last week just dumped gasoline over that fire. Cambridge Analytica, a London-based political consulting firm working for the Trump presidential campaign, improperly harvested data on millions of Facebook users, according to reports.
U.S. lawmakers soon called for regulation and demanded that the Facebook CEO testify before Congress. The Federal Trade Commission is reportedly investigating. An FTC spokesman said, “We are aware of the issues that have been raised but cannot comment on whether we are investigating.”
The tag #deletefacebook has become a rallying cry among deserting Facebook users, including Brian Acton, a co-founder of WhatsApp, for which Facebook paid $17 billion in 2014.
Investor unease over Facebook might seem sudden in the wake of the Cambridge Analytica scandal. But the stock has actually underperformed the Standard & Poor’s 500 index for the past six months.
The Facebook platform is the root of the company’s success—and its problems. With 2.13 billion monthly active users, if Facebook was a nation, it would be the world’s most populous. That, as much as any reason, fuels its staggering ad revenue and profit growth rates of more than 20% a year. The ethos that drove Facebook was “move fast and break things.”
“The problem is not with the soul of Mark Zuckerberg, but the business model of the company,” says Sandy Parakilas, a former operations manager who left Facebook in 2012 after he warned management of the dangers of foreign-state actors manipulating the platform and said he was ignored. “The product was designed to be addictive. The business model is based on taking up people’s time and attention, and inflammatory content does just that.”
Still, the company is flush with nearly $42 billion in cash and investments, giving it the flexibility to diversify into other business lines, as it did with Instagram and WhatsApp, the third- and eighth-most-widely used social media platforms, respectively.
Instagram has been a “crown jewel,” and is on pace to reach one billion monthly active users by mid-2018, Ives says.
Indeed, the photo-sharing app could be the greatest threat for anyone on Wall Street who decides to bet against Facebook. Instagram possesses less personalized data than the Facebook platform, note analysts at Wells Fargo. They add: “We estimate now that a third of FB’s revenue growth and the entirety of its impression growth stem from Instagram.”
Facebook may also continue to make investments in mixed reality and artificial intelligence. The company has long insisted it is a “platform for all ideas.”
Legislators don’t seem quite so open minded about the future of Facebook, or the internet more broadly, which could raise regulatory risks for the social media behemoth and others like Alphabet’s (GOOGL) Google and Twitter (TWTR).
Democratic Sens. Mark Warner of Virginia and Amy Klobuchar of Minnesota are the co-authors of the Honest Ads Act bill that would subject online political ads to the same rules and restrictions as those for TV, radio, and satellite.
Other senators have demanded that Facebook executives explain what happened with Cambridge Analytica. And Zuckerberg has been summoned to testify before the House Energy and Commerce Committee.
More immediately, Europe’s General Data Protection Regulation goes into effect in late May. The new rules are intended to give internet users more control over personal data. Companies like Facebook that rely heavily on user data collection and analysis will be required to obtain a user’s consent before collecting data.
The regulatory push comes amid signs that growth, and user engagement, are plateauing. For the first time, Facebook lost daily active users in the U.S. and Canada—some 700,000 in the fourth quarter of 2017. And growth rates are slackening in India, Brazil, Japan, Germany, and the U.K., according to estimates eMarketer provided to Barron’s.
Those users who remained spent less time on it, Facebook said, by about 50 million hours a day. The company said the drop was caused by changes in video recommendations, but the overall impact was the equivalent of a TV network losing viewers and its remaining audience watching less programming.
Perhaps most troubling was the hemorrhaging of the coveted millennial demographic, so crucial in the ad spending decisions of brands and media buyers. Facebook will lose two million users, age 24 and under, this year, eMarketer estimates.
“Losing millennials has been a growing concern for investors,” says GBH Insights’ Ives. “Engagement and mind share, especially in younger demographics, is key in terms of advertising and making sure those users stay on the platform over the coming years.”
Facebook and Google command 63% of the $83 billion digital-ad market in the U.S., according to eMarketer. Mobile advertising generated more than 86% of Facebook’s $40.7 billion total revenue in 2017.
“They own your black book in your smartphone,” says Rebecca Lieb, an analyst at market researcher Kaleido Insights.
But Facebook’s headaches, coupled with slackening user growth and changes in how major brands look at social media as an advertising vehicle, could soften its grip. Up to 20% of Facebook’s advertisers are experimenting with Twitter, and some also are giving Snap (SNAP) a closer look, GBH Insights’ Ives wrote in a recent report.
He and other analysts are especially concerned that Procter & Gamble (PG), the world’s largest advertiser, and Unilever have made noises about cutting back spending on digital ads. P&G said it cut its digital ad budget by $200 million last year. (Digital ads account for a third of P&G’s $7.1 billion ad budget.) Unilever has threatened to pull ads from Facebook and Google unless they clean up objectionable content.
Facebook has taken steps to be more transparent about its data and metrics. It agreed to an industry audit, and it plans to introduce a program to help marketers better understand metrics that lead to sales.
“Facebook is now taking the brand safety and reputational issues much more seriously than it did just six months ago and pro-actively addressing them with clients,” says Mark Read, global CEO of the digital ad agency Wunderman. “Even if clients hadn’t reduced spending, it was getting the message that they were hesitating.”
But has Facebook’s top management really gotten the message? Zuckerberg and Sandberg have offered promises of self-regulation in the past.
And they have played down the risks. As recently as November 2016, Zuckerberg dismissed the influence of fake news on Facebook as “pretty crazy.”
When a report from Facebook’s security team on how foreign adversaries could use the platform came out in April 2017, it lacked details and there was no direct mention of Russia.
“User protection wasn’t prioritized appropriately,” says Parakilas, an adviser to the Center for Humane Technology, a nonprofit critical of Facebook and Google. “Without significant business model and product changes to News Feed, little will change.”
The uproar has forced Zuckerberg, an inveterate coder, to ponder how to curb misinformation without sacrificing the growth of his sprawling digital community.
His resolution for 2018 included a vow of “protecting our community from abuse and hate, defending against interference by nation-states, or making sure that time spent on Facebook is time well spent.”
The following week, Zuckerberg said the News Feed algorithm would be rejiggered to favor “meaningful interactions” of family and friends.
In February, Zuckerberg published a 5,700-word manifesto about “building a global community” free of fake news and click bait. While some took it as another sign of Zuckerberg’s mission to clean up Facebook, others saw it as a pat corporate answer for all of the company’s ills: Use Facebook more.
Current and former Facebook employees say they are confident the company can tip-toe through the land mines. Serious efforts have been undertaken for more than a year to invest in building systems to prevent a repeat of the 2016 election.
And for the first time in the company’s history, Facebook is promoting publishers whose content is “trustworthy, informative and local.” It is experimenting with letting publishers feature their logos more prominently to re-establish their brand. And in early March, it allowed a few to label articles as “breaking news.”
The three-pronged approach of removing false news sources, reducing the spread of misinformation, and disrupting financial incentives for ad farms of problematic content is the type of comprehensive approach necessary, company executives say.
Within a few weeks, Facebook will roll out a tool at the top of News Feed with a list of recently used apps and an option to revoke permissions to user data. The company says such a tool is available in privacy settings, and it is essentially making it more prominent to ensure users are aware of it.
Still, change will be hard.
The DNA of tech companies—whip-smart people who often work in secrecy to create innovative products and services—often insulates them and can “lead to an arrogance of success,” says Charles Elson, a professor of corporate governance at the University of Delaware. “There is the danger of thinking you’re infallible and smarter than everyone else. It’s happened before, such as Uber and even Apple, and will again,” he says.
Former executives contacted by Barron’s say that Facebook faces two major challenges: successfully filtering ads, which is possible, and filtering content, which may be next to impossible.
The most logical step may be to split up News Feed and make it less attractive to would-be political operatives.
The company has previously tried that, however. Bowing to what it said was customer disapproval, Facebook earlier this month ditched a months-long test in six foreign countries that divided News Feed into two: one focused on photos and updates from friends and family, the other for “explore feeds” of third-party content.
“They still see themselves as a technology middleman,” García Martínez says. “Facebook is not supposed to be an element of a propaganda war. They’re completely not equipped to deal with that.”
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