Fortress Facebook Is Suddenly Vulnerable
(Bloomberg Opinion) -- It wasn’t a dream or an exaggeration by cautious Facebook Inc. executives. The company’s financial results are weakening, just as executives warned they would a few months ago.
Everyone knew that at some point Facebook wouldn’t be able to continue posting eye-popping revenue growth and profit margins. What was surprising was how quickly the brakes came on. Early in 2018, Facebook’s revenue growth was nearly 50 percent. Facebook disclosed on Tuesday that its third-quarter revenue rose 33 percent from a year earlier — about in line with the rate of slowdown the company warned investors about in July. It wasn’t setting a low bar at the time; it was being truthful about a business that has deteriorated quickly.
If Facebook’s caution flag is correct, its growth rate will slow further to 27 percent or so in the fourth quarter, or nearly half the growth pace from the first quarter of this year. That’s a stunning slowdown for any company. Facebook has always been proficient in squeezing more advertising sales from everyone passing through Facebook’s digital doors. In the third quarter, however, the average revenue generated for each user rose 20 percent from a year earlier — impressive for most companies, but the slowest rate for Facebook since 2013.
Spending continues to boom even as revenue growth wanes, with the largest increase coming from a category of costs for running Facebook’s computer data centers and paying for contracts with web video partners. Facebook CEO Mark Zuckerberg told stock analysts that 2019 would be a year of “significant investment,” implying the company’s profit margins will continue to shrink.
It adds up to a drastic change in condition for one of the best corporate success stories of the last decade. Investors had believed Facebook would lead the technology pack in growth and profits for years to come, but that expectation has changed. Facebook’s conference call with analysts was littered with cautions that the activities to which people are gravitating — private messages on WhatsApp and Messenger, web videos on Facebook, and video-and-photo diaries called stories on Instagram and Facebook — are promising, but will be tough to immediately turn into revenue at the company’s usual rate. This is no longer the muscular Facebook that could do little wrong financially. This is a company that has suddenly hit a dangerous patch where much could go wrong.
The thin ribbon of silver lining is that there wasn’t more bad news on Tuesday. In Europe, where a recently adopted digital privacy law threatened to crimp Facebook, the number of daily users of Facebook or its Messenger app inched down only marginally in the third quarter. The number of people using Facebook or Messenger in the U.S. and Canada didn’t budge. That’s not good, and it continues a trend of flatlining use in Facebook’s most important advertising market, but at least there are no signs that people are fleeing in droves.
Zuckerberg was clear that use of the main social network has hit a saturation point in developed countries such as the U.S. The trouble is that Facebook use will tilt toward countries where the company’s ad sales are smaller than they are in North America and Europe.
The big problem is that investor confidence in Facebook has been shaken from the company’s stark financial warnings over the summer plus repeated missteps on everything from violent extremism within Facebook’s internet walls to the departure of multiple senior executives. The loss of confidence infects everything at Facebook.
The company always seemed sure-footed in pacing the financial blossoming of its products. When the main social network lost a bit of luster with internet users and advertisers, the company had its Instagram app ready and waiting to pick up the revenue slack. It was a seamless hand-off for a while.
Investors anticipated the products that were next in line to march through Facebook’s prodigious money-making engine: its TV-like web video hangout, then Messenger, WhatsApp, virtual reality technologies and who knows what else. But now that investors aren’t so sure about Facebook’s near-term financial prospects, they also lost faith in Facebook’s ability to keep passing the money-making baton to the rest of its products.
It’s no longer a sure thing that Facebook will figure out how to harness people’s changing internet behavior in a way that generates the growth and profits that investors have come to expected. That Facebook — with no assurances of success — appears to be real and not a mirage.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Shira Ovide is a Bloomberg Opinion columnist covering technology. She previously was a reporter for the Wall Street Journal.
©2018 Bloomberg L.P.