Facebook’s long-term goal: Make that free, too.
Facebook’s long-term goal: Make that free, too.
Close your eyes and imagine a business that counts more than a quarter of the world’s population as a customer, with most of them spending 1/12th of their day using its products. Imagine also that this product is completely free to these customers and always will be. Also consider that this company requires no real capital to run their business, no real marketing to attract new customers, and has no real competitors. Finally, imagine that this company is in one of the largest industries in the world. What you’re thinking about is Facebook.
Facebook’s mission is simple and clear: to connect the world and to build community. Almost 3 billion people (more than 1/3rd the population of the world) interact with a Facebook product on a monthly basis, and 2.25 billion interact with the brand on a daily basis, creating one of the most powerful network effects in the history of humankind. Facebook leverages this user base into an advertising business that is able to generate otherworldly amounts of free cash flow, and considering the size and growth rates of the digital advertising industry, this will continue for a long period of time. Facebook’s moat is as wide and deep as they come: a network effect that includes almost every internet-connected person in the world. As is the case with network effects, it’s moat gets stronger as each additional person uses Facebook.
The “network effect”
Facebook owns four of the world’s most popular communication and social networks: Facebook (the “blue app”), Instagram, WhatsApp, and Messenger. More than 2.25 billion people open at least one of these apps on a daily basis.
More than 140 million businesses use Facebook, of which only 8 million use Facebook Advertising products.
On the engagement side of the network there is an obvious network effect. The more people in the network, the more value each individual person will get out of the service. But Facebook is also a two-sided network of users and advertisers, and to me, this is the main source of competitive advantage. Not only does Facebook have the largest network in the world, it also knows the most about every single person in the network. This is because Facebook asks for and receives more information directly from the user than other networks do, but also because Facebook collects information indirectly from browsing history/cookies on the internet as well as your behavior on its platforms.
The end result is that advertisers have access to a network of about 2.25 billion daily active users with unmatched targeting capabilities and a variety of different ways to advertise to them. To put this in perspective, Twitter has 187 million daily active users and much less information about each, and an ad product that doesn’t come close to what Facebook offers.
The overlap of Twitter users (or any other network) and Facebook users is another important point to consider. 140 million businesses on Facebook means most are small businesses in the long tail, and these small businesses don’t have infinite resources. Much like Google Search ads, Facebook ads are do-it-yourself but it is not trivial to make it work from an ROI perspective. As a result, the very large majority of businesses will commit themselves to advertising on one social media platform only, the largest one with the best ad products.
Threats to the network
Some may think that people will just naturally stop using Facebook or Instagram when they get less utility out of it, or when they eventually get bored of it. In my opinion this is not likely. The reason is that most of Facebook or Instagram usage is to fill free time. Everyone has those moments during the day — train rides to work, long waits for a doctor’s appointment, eating lunch alone, putting your child back to sleep, long and boring car rides in the back seat, and so on.
To stop using Facebook would be to replace it with doing nothing, and this is an unacceptable and maybe even irrational choice for the wide majority of people, especially because people have mobile phones at their fingertips at all times. This, along with Facebook being completely free to all users, is why users overwhelmingly choose to stay on Facebook month after month. It would require a seismic shift in human behavioral patterns, happening to all users at once, to materially affect Facebook’s user counts.
Theoretically, other emerging networks like TikTok could erode the moat. TikTok and other platforms -- like Snapchat and even Youtube to a lesser degree -- are competition to Facebook and Instagram because if you are engaging with one platform then you aren’t with the other. There’s a few things worth considering though: Facebook was already competing with everything else you do during the day, including eating, sleeping, and watching Netflix. More TikTok engagement is not cutting only into Facebook engagement -- it’s cutting into everything else you’re doing during the day as well. Secondly, TikTok skews (very) young: about 70% of all users are under the age of 24 and 32% of users are under the age of 19, whereas under 10% of Instagram users are in that age group. The average age of Facebook blue app users is 40 years old. If anything, TikTok -- both in spirit and in target demographic -- competes more directly with Snapchat.
Competing with free
In some ways Facebook is misunderstood.
They have been mired in one scandal after another over the past few years, from privacy and security to hate speech and human rights. It’s important to remember Facebook is just a reflection of society itself, and not the other way around. If anything, Mark Zuckerberg and Facebook have threaded the needle well, balancing between fighting for free speech and fighting against hate speech. On top of that, they have invested extremely aggressively in AI to prevent election interference and also hate speech. That’s another competitive advantage for Facebook -- any network that hopes to get to Facebook’s scale will surely be dealing with the same societal issues, but without the many years of having invested in AI systems and machine learning to deal with it.
What’s most misunderstood about Facebook is the model itself and how large Facebook’s total addressable market actually is. The writing has been on the wall for years but hardly anyone has noticed -- and it should be clear with their more recent announcements (Shops and Libra). Facebook is trying to disintermediate every large consumer internet business with “free”, including Netflix, Ebay, Match, Shopify, Paypal, and Spotify.
Ebay charges marketplace sellers a 10% fee? Make that free.
Match charges users to find dates? Make that free.
Paypal charges people for transferring money? Make that free.
Shopify charges companies for their websites? Make that free.
Netflix charges users to watch movies? Make that free.
Spotify charges people to listen to music? Make that free, too.
Now that Facebook has reached this scale, look for them to enter adjacent businesses and don’t be surprised when that service is free, all funneling into their already huge advertising business. I expect Facebook to continue it’s remarkable growth and I think public perception of them will change in time.
I used to own Facebook for the past 4 years (sold last year Sep). Even during Cambridge Analytica scandal, I tripled down as it went lower and for a year it stood as 76% of my portfolio from around 25%. Now the reason I did it because I had higher conviction for the company, i thought CA issue was overblown and stock has been sold off. Now, I can not say the same for FB today. not from valuation point of view, Revenue g YoY is great, margins are great. even today I think it is undervalued. But I have a principle which is don't own anything that is a target in the eye of lawmakers and are susceptible to politics (just like oil & gas companies) Today FB is more exposed to their wrath than anytime in history, now, Dems will control the power for at least 2-4 years, risks are at ATH.(maybe that is why its undervalued). Also, another reason is I used to use all products of Facebook. Now, as someone in 29 yoa, I am fed up with Instagram, FB etc. I find more value in twitter, reddit and tiktok is more joyful than Instagram. Whatever company's stock I bought I test its products before I purchase the stock (even if its SaaS, cloud, and even if I am not a company, I do my best to get more exposure by trying to see how it performs as a product), FB products are not what they were used to be. So, I might be biased here, not sure, but if I dont enjoy the product anymore, especially, I find other more enjoyable, its time to move on.
Nice read, but would humbly disagree on a couple of aspects:
1. Disengagement from FB would require a massive behavioral shift at once: On the contrary, I believe the nature of network moats is a very unstable equilibrium. The same word of mouth publicity that got everyone to adopt a network also accelerates everyone leaving a network. It would require just a handful of really strong influencers (handful being a relative term to its 3M MAUs) to promote FB as an out-of-fashion fad for a whole host of passive "opinion-takers" o follow suit.
2. FB is going to disrupt e-Bay, Shopify: I don't believe that is the case. Catering to the long-tail goes in cycles. First, you find general-purpose platforms such as FB, Google cater to long-tail businesses by helping them set up storefronts. But gradually, these same long-tail communities become big enough to support vertical communities focused on creating a specific value-add. That is where general-purpose platforms like FB can't 'do everything for everyone at scale'.