When Mark Zuckerberg is
interviewed, the founder of Facebook can barely put a sentence together without
using the word ‘connect’. This looks like a case of Tourette’s syndrome that
spouts business buzz words not curses. But it is based on his understanding of
the source of his company’s revenues and almost all of these come from
advertisers. They pay to put their offerings to Facebook’s two billion users,
since it claims to know about these people and what they like. This is
Facebook’s business model: to monetise connections to its platform.
In this way, Facebook has made
it into the top 10 of corporations on global stock markets. Its business throws light on the way the imperialist economy works.
The advertising game
It is not much good making a
product or service for sale if people do not know about it and buy it. Hence,
advertising. From TV commercials and sponsorships, to pages in newspapers, to
the ubiquitous logos on sportspeople, on billboards, on the clothing people buy
and on images online, this is no small business. Global advertising expenditure
in 2016 was estimated at $493bn.
A huge sum of money is available for the right destination.
Advertising is key feature of
the capitalist market, especially when that market is global and not just down
the road. Major corporations use advertising to put their brands in the public
eye and fight for their market share. Spending millions or billions on
advertising is a necessary part of becoming, and staying, a monopolist, since
economic power is about market domination.
But the right destination for
advertising spending can still be difficult to determine. In general, the
bigger the audience for advertisers, the better, although it still might be the
wrong audience for what is being sold. As the business cliché puts it: ‘half of
our spending on advertising is useless, but we don’t know which half’. This is
where the growth of online media has become more important in the past decade
or so: it can claim to provide a better answer to that question.
Television, with the largest
audience coverage, still dominates ‘offline’ sales of adverts, totalling $186bn
in 2016. A long way behind television advertising revenues are those for print
media and radio. Offline advertising also accounts for the bulk of total
revenues, with last year’s share estimated at 64%, or $315bn. But offline
advertising growth has been stagnant in recent years, and is being rapidly
caught up by the newer digital media.
From a small starting point,
spending on digital media has been growing quickly. Digital advertising now
accounts for 36% of the total spending, at $178bn, and its share will grow
further, especially on mobiles and especially via search, such as Google, and
on social applications, such as Facebook.
The economics of those media
companies relying on the offline advertising market is being slowly undermined
by digital communications, especially in the case of newspapers. In the digital
advertising world, Google and Facebook are the dominant forces, together having
more than half the digital advertising revenues. Google has a much bigger share
than Facebook, and also has a stock market capitalisation of around $650bn
compared to Facebook’s at just below $500bn, helped by the fact that its system
accounts for 90% of all Internet searches. But Facebook is a sizeable member of
this giant duopoly.
Facebook has two big advantages
over offline media. It can just provide a platform, and rely upon other people
to produce the content that is shared on its system, rather than having to
produce that content itself. It also has a more detailed view of the profile,
likes and inclinations of its users than is possible for television companies
or newspapers. This is the core value it offers to potential advertisers: not
just a big and growing audience, but one differentiated by age, gender,
location and likes.
The big connector
Facebook differs in a number of
respects from the other major corporations covered on this blog in recent
months –
Apple,
Alibaba and
Amazon.
It has far less investment in financial securities and derivatives than Apple,
and I will not cover these aspects here.
It also has a more geographically diverse client base than either Alibaba or
Amazon. However, one feature of its business that is critical, as for Apple and
Amazon, is that it was founded in the large and rich US market.
In mid-2017, Facebook’s average
revenue per user in the US and Canada was $19.38, nine times that for Asia,
which was just $2.13. But Facebook’s audience in Asia is growing fastest, and
accounted for 34% of the average daily number of users by mid-2017, compared to
14% for the US and Canada and 20% for Europe.
The US market evidently has a
powerful influence on social trends elsewhere in the world. It has been shown
not only by the popularity among youth of wearing low-hanging trousers and
baseball caps backwards – although, thankfully, these trends have, like, faded
– but also by how a system designed for an elite US university, Harvard, could
end up becoming the world’s largest social media site. The Bullingdon boys of
Oxford University in the UK have not come anywhere close to this, although they
have distinguished themselves on a much smaller scale by providing politicians
who help fill the UK news media.
With 97% or so of Facebook’s
revenues derived from advertising, and with the bulk of those advertising
contracts being subject to cancellation within one month, one would
think that financial markets would look upon this business model as very shaky
indeed. That impression would be endorsed by the fact that Facebook has not
paid any dividends on its shares since these were issued to investors in 2012.
But the share price has nevertheless risen dramatically and an early investor
would have made a stupendous capital gain from holding them. When they were
first sold publicly in May 2012, the initial share price was around $18; it
rose to more than $50 by early 2013 and was over $160 in the past week or so.
Valuing people
Facebook had less than 500m
monthly active users of its system in 2010; by mid-2017 it had hit two billion
users. Even if one allows for duplicate/fake profiles and for company accounts,
that is almost a quarter of the world’s population and the number is still
growing rapidly. Those figures do not include many users of other
Facebook-purchased companies, WhatsApp and Instagram, although there will be
some overlap. While the popularity of social media websites can be short-lived,
especially among young people, there is no sign yet that this is happening to
Facebook.
Strong customer growth and
potential market domination have been features of several big, US-based,
tech-related companies. Since the 2007-08 financial crisis, low interest rates
have helped boost all equity prices, because low yields on government bonds and
low interest rates from bank deposits look less attractive to investors by
comparison. But these companies’ valuations have also jumped more than the
market average. The returns from the equities of established blue-chip
companies – from their dividends and share price growth – cannot compete with
the prospect of buying into a relatively new global market winner. That applies
even for one that pays no dividend at all, as has also been true for Amazon.
Facebook has a
similar value on the stock market to Amazon. Amazon is favoured for its
potential to be the market in which goods and services are bought and
sold, setting the price and taking a cut from suppliers – although it also has
a key revenue source from its web services operation. Facebook, like Amazon,
has to expand its clientele, and this is an even bigger imperative since almost
all its revenue comes from selling advertising based upon this audience, one
investigated and filtered by its algorithms. Hence Zuckerberg’s focus on how
everyone should ‘connect’ via Facebook, which is Facebook’s attempt to maximise
market coverage.
Business growth and WhatsApp
Facebook’s
business growth shows the success of the company’s strategy so far. Revenue
jumped from $7.9bn in 2013 to $27.6bn in 2016. Net income after various costs
and taxes grew more than sixfold, from $1.5bn to $10.2bn over the same
period. The background to this growth reveals some interesting points.
As one might expect, Facebook
has invested a lot in research and development, committing more than 20% of its
total revenues to this, amounting to nearly $6bn in 2016. Like other large
corporations, Facebook has also tried to secure its market position through takeovers
of companies that could complement its business, or ones that might in future be
troublesome competitors in areas that it needs for further growth. Since 2005,
Facebook has taken control of more than 60 companies in 10 countries –
including India, Israel, Canada, the UK and Ireland, although most were from
the US. These company acquisitions cost anything from a few hundred thousand to
many billions of dollars.
Facebook’s biggest acquisition
by far was in October 2014, of WhatsApp, the smartphone messaging, voicecall
and video service. This underlined Facebook’s aim to get into this rapidly
growing form of social connection – and of potential advertising revenue.
There have been conflicting
media reports of the total price paid for WhatsApp, but it spent ‘only’ $4.6bn
in cash. A much larger amount was also paid for the takeover in terms of
Facebook shares, probably worth close to $15bn, giving a total of around
$19-20bn. This shows how a key ‘social media’ company was well versed in using
the financial system to establish its market power. That might surprise those
who are critical of capitalist financiers, but who pay little attention to how
the capitalist system actually works.
The WhatsApp acquisition was
striking in another way. Facebook’s extravagant price for WhatsApp was despite
that company having made losses in previous years. At the end of 2014,
the ‘acquired users’ of the WhatsApp system were valued at $2bn, ‘trade names’
were valued at close to $450m and ‘acquired technology’ was nearly $300m, but
there were tax liabilities of around $900m that made the net assets acquired equal
a mere $1.9bn. The remaining $15bn or so that Facebook paid was accounted for
as ‘Goodwill’.
Goodwill is a feature of company
accounts that reflects the value of something that cannot be pinned down in
terms of the business assets acquired. It is defined not as a physical asset,
eg buildings and equipment, or even technology and existing customer business.
It boils down instead to the ‘business reputation’ or ‘brand value’ of the
company, and basically to its ability to generate revenues as a trusted enterprise.
More precisely, it represents the capitalist market’s valuation of a company’s
market presence and potential power, one that is especially highly valued as a
takeover target by a budding monopolist with access to funds, like Facebook!
The term Goodwill sounds like a transient favourable opinion; it reflects the
monetary assessment of contemporary imperialist markets.
Staying on top of the sugar
mountain
Business books have long
discussed how managers might control a company although they do not own it, or
perhaps have only a small stake in its equity. Marx raised this point in Capital
and it was popularised in James Burnham’s 1941 book, The Managerial
Revolution. Mark Zuckerberg offers an interesting take on this phenomenon.
Zuckerberg has managed to
overcome the usual capitalist norms, where the money invested in a company’s
shares determines how much power the owner has in company decisions. Such
capitalist rules still mean that a small group of larger shareholders can
determine the outcome if they can get more than 50% or more of the total. This
is not difficult when there is often a very large group of very small
shareholders who have negligible voting power. But Zuckerberg has gone much
further, as shown by Facebook’s issuance of different kinds of shares with very
different votes, something also done by other capitalists in the technology
sector and elsewhere.
Zuckerberg owns mainly Class B
shares, with 10 votes each. The bulk of Facebook’s marketed shares, the ones
listed for trading on Nasdaq, are Class A shares. These might sound better,
since everyone prefers A to B. However, the A shares have just one vote each.The outcome is that Zuckerberg controls 60%
of the voting power of Facebook shares although he owns ‘only’ 28% of the
company. Facebook’s 2016 annual report is at least honest enough to spell out
that he is
“able to exercise voting rights with respect to a majority
of the voting power of our outstanding capital stock and therefore has the
ability to control the outcome of matters submitted to our stockholders for
approval, including the election of directors and any merger, consolidation, or
sale of all or substantially all of our assets.”
So, the owner with 28% of the
shares has complete control of all company decisions! If this were not enough
of a challenge to the capitalist market’s supposed ideology of equal status
before money, Facebook/Zuckerberg managed to top this in 2016. Helped by
Zuckerberg’s own voting power, Facebook took the decision to issue a new class
of shares with no voting rights at all. These were Class C shares, ones
that, this time, should give investors a clue that they will now be sitting in
the bad seats.
Zuckerberg’s plan is to issue
these new Class C shares in exchange for Class A and B ones, including ones that
he holds. This would allow him slowly to sell his shares and thus, piece by
small piece, to donate funds to his Chan-Zuckerberg charity, so chipping away
at his $100bn-plus mountain of wealth, but still retaining control of decisions
at Facebook. The latter charity is his family’s philanthropic initiative; based
upon him having more money than any sane person could ever possibly spend.
Zuckerberg’s charity scheme is
one of many examples where a few of the ultra-rich ‘give something back’, from
John D Rockefeller, to Howard Hughes, to Bill Gates, George Soros and Warren
Buffett. The donations go to what the plutocrat happens to like, not according
to what society needs.
Adverts, just for you!
The personal details of its two
billion users are the raw material from which Facebook creates an attractive
platform for advertisers. Filtered further by Facebook tracking ‘likes’ and
clicks into other Internet sites, it can offer a defined audience far better
than news media and TV companies, so it can claim to focus more than others on
the relevant age group and inclinations of consumers.
The traditional media has not
managed to keep up, even when it has gone online, as shown in the problems
newspapers have had deciding whether to set up paywalls for their content, or
whether to try and maximise viewers and boost advertising revenues by giving
free access to that content. Even though Facebook’s ‘click through rate’ from
the advertisements it shows is very low, with younger people better at ad
blocking, so far that has not been a problem for the growth of its advertising
revenues.
Nevertheless, Facebook does
worry about future revenues. Has the core site now reached ‘saturation
point’ for advertising? Will new ventures into virtual reality products, via
its acquisition of Oculus for $2bn in 2014, help out? Can the WhatsApp
acquisition generate enough money when it starts charging users?
Conclusions
Facebook’s core area of business
has been the US and Canada, from which roughly half its global revenues are
generated. The availability of wealthy US investors to fund Facebook’s early
investments and growth has also been critical for the company.
As in the case of Amazon, this highlights how the global success of a
commercial enterprise is boosted by it starting up from a big, rich country,
with the US having the pre-eminent position.
Facebook's growth has absorbed some of the
advertising revenues of other businesses and helped undermine them. But it is a
better example of capitalism’s conflict between the forces and relations of
production. The forces – the development of an easy global transmission for all
kinds of data, ideas and information – are channelled by a system that
accumulates the personal and social information of billions of people for
private profit. Facebook is basically an advertising platform, and advertising is intimately related to
the rise of mass production and the generation of monopolies, even in areas of
new technology.
Tony Norfield, 1 September 2017
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