Gentlemen, start your engines. Facebook filed for its initial public offering on Feb. 1. Expectations are that in May it wants to raise $5 billion, which would make it the biggest tech IPO since Google’s in 2004. Valuations and timing may shift, but as Om says, Facebook will be doing the mother of all IPOs, with effects on hiring and acquisitions that will ripple throughout the startup and tech communities and at Facebook itself.
In contrast to recent offerings from Groupon, Zynga, Jive Software and Pandora, Facebook’s shows a very solid and profitable business. The company had $3.7 billion in 2011 revenue, up 88 percent from the prior year. It has profit margins comparable to those of Google (47 percent operating margin in 2011) and generated $1 billion in net profit. Advertising sales made up $3.2 billion, and fees from the 30 percent cut Facebook takes off sales of virtual goods from gaming companies accounted for another $550 million.
Facebook’s ad sales grew nearly 70 percent last year, and its fees grew by five times after the company mandated that games had to use its Credits system. Can Facebook maintain this pace? Here are some issues to watch:
Revenues per user. Facebook will have to dial up its dollars per user, because it will be increasingly harder to rely on user growth. According to its own estimates, Facebook has a 60 percent penetration of online users in the U.S. and the United Kingdom, two big ad markets. It hasn’t entered China, but it may never figure out how to compromise on government censorship and regulation, and competing communications and social networking companies like Renren and Sina are already there. Social gaming spending depends on a relatively small number of “whales,” so Facebook will have to roll out Credits for more digital goods and apps. As for advertising, Facebook will have to prove that its performance-based ads are more than modestly effective to raise rates. It should build out more sponsorship opportunities, offer rich media or video inventory, and get back into deals or coupons to continue to outgrow the market.
Mobile opportunities. Or are they challenges? Facebook is seeing tons of mobile usage: 425 million monthly active users in December, representing over half its audience. But it doesn’t yet show advertising in its mobile app or its mobile-optimized website. Facebook acknowledges that mobile substitution for web usage is a risk. While mobile advertising is a high-growth market, early action may center on search and offers, marketing vehicles where Facebook has little experience. Kevin Fitchard looks at Facebook’s mobile issues below.
Convincing arguments. Facebook will also have to convince some key constituencies, including investors, users and developers, to trust that the company is under control and headed in the right direction. Mathew Ingram points out that CEO Mark Zuckerberg is pretty much in total command, and Facebook has a controlled, rather than independent, board of directors. Investors and partners have to buy into his vision, including the company’s mission to rewire the world, its focus on product before profit and its hacker culture. At the same time, Facebook will have to cultivate
developer relationships better than Twitter has and build out revenue streams for its business ecosystem the way Apple has done. And finally, it has to satisfy customers and the FTC that it can protect user privacy.
Some doubters will look at Facebook and say it could still “pull a Myspace” and lose its audience to the next big social media phenomenon. Hardly. Unlike Myspace, Facebook built a real technology platform that is extending its reach and developer lock-in. And Facebook data show that its user engagement is actually going up as it grows. Rather than tiring of the social network, more of them engage daily than a year ago: Its ratio of daily users to monthly users has increased from 54 percent to 57 percent during 2011. This is remarkable.
No, Facebook’s real competitors aren’t just social media alternatives but companies like Google and Microsoft, as it notes in its S-1. They have far bigger cash cows fueling their technology platforms than Facebook has. Facebook has a somewhat cavalier attitude toward making money. “Simply put: we don’t build services to make money; we make money to build better services,” Zuckerberg said in his letter to investors. Its ad strategy is aimed more at delivering the long-term promise of social marketing rather than adding traditional formats that would pay off immediately. Investors and competitors should expect revenue growth deceleration for a year or two and should watch closely to see if Facebook can actually deliver on its potential.