Less than meets the eye at Facebook
Barry Ritholtz,
Washington Post
February 11, 2012


Facebook is valued at “plenty”
By Wall Street’s tech cognoscenti,
Take 1 billion friends
Times 5 dollars, then
Times IPO multiple: 20!
— Limericks Économiques


Last week, I made a surprising discovery about Facebook: It has far fewer “active” users than it claims. I learned this from a note buried deep in the company’s S1 — the IPO document it filed with the SEC in order to go public. Based on its S1, the social-networking giant’s value is probably much less than most investors seem to think.

One advantage of working in finance is that you get to meet lots of very nice, really smart people such as David Wilson, who writes the Chart of the Day column for Bloomberg. His column is my Sudoku, as I challenge myself to poke holes in the correlations it identifies between various assets. It’s good wonky fun.

On Feb. 3, the column used Facebook’s SEC data to show how fast the firm was growing. FB was becoming a “daily habit for more users,” and the numbers from the IPO filing were extraordinary: 845 million Monthly Active Users and 483 million Daily Active Users.

MAU? DAU? I had never heard of either metric, and novel accounting for public companies is always a red flag. Don’t just take my word for it, ask a Groupon investor.

I thought these metrics were suspect. If you do not have to go to Facebook.com to be counted as an active user, are the metrics misleading? I asked Wilson, who pointed to details in the S1:

“Daily Active Users (DAUs). We define a daily active user as a registered Facebook user who logged in and visited Facebook through our Web site or a mobile device, or took an action to share content or activity with his or her Facebook friends or connections via a third-party Web site that is integrated with Facebook, on a given day. We view DAUs, and DAUs as a percentage of MAUs, as measures of user engagement.”

Let me translate: If you clicked a “Like” button anywhere on the Internet, then you are a Daily Active User. Even if you never go to Facebook.com.

As huge as those MAU/DAU numbers were, I wondered how this detail might affect revenue. The Facebook metrics for annual revenue per user were stunningly modest: Facebook picks up $5 per user each year. Compare that to Google, which garners more than $30 per user per year. Netflix takes in closer to $144. Is this why Facebook’s annual revenues are so low compared to its 850 million user base?

Why does this user-behavior metric matter? Consider what it means in terms of how “daily users” will generate revenue and profits. If all users do is click a “Like” button, but never make it to Facebook.com, they cannot be “monetized.” They cannot be marketed to. They do not see any advertising. They cannot be sold any goods or services. They take advantage of FB’s extensive infrastructure to tell their FB friends (who may or may not see what they did) that they liked something online. That’s all that happens.

So they not only fail to generate revenue for Facebook that day, but they are actually a cost. It’s not cheap to maintain that massive infrastructure of Like buttons everywhere. Someone’s got to pay for the server farms that handle the back-end of this.

Consider what happened when MySpace tried to increase profits from users. With lots of pressure to drive revenue, they doubled the ads on the site. As they tried to monetize users, the site became ad-congested, a real eyesore. Users left in droves.

So how does this play into Facebook’s sky-high valuation? The company’s worth has been pushed ever higher by a series of private deals, all made before the SEC filing was made public. Microsoft made a well-timed investment of $240 million in 2008 at a $15 billion level; Elevation Partners paid $120 million at a value of $23 billion in June 2010. Goldman Sachs poured up to $2 billion into the social network at a $50 billion valuation in January 2011. All of these private investments were made by sophisticated investors, but without the benefit of the SEC data.

A year ago, I offered five questions for Facebook private investors:

• FB claimed (in January 2011) 500 million subscribers. How many of these are active users — at least once or twice a week? How many of these are dead accounts, with no activity for 30 days, 90 days or more?

• What is the average revenue per subscriber? How are you planning to grow this?

• How much churn does Facebook go through? For every 100 new subscribers, how many subscribers leave?

• What is the life cycle of the typical Facebook subscriber? How active are they for how long; what sort of arc do they cut across their FB life cycle?

• Besides advertising, how will you monetize your user base? Are you selling their data to buyers? What about anonymized data — are you selling this also?

Last month, I compiled a new list for Facebook IPO investors. Those of you thinking of buying Facebook’s IPO at these rich valuations should be comfortable with the answers to these:

• What is the IPO offering price going to be? What market capitalization will FB come public at?

• What are the key pricing metrics? P/E, growth rate, price to book, price to sales?

• What is FB’s growth potential? At 800 million users, where do they begin to plateau? Top out?

• What is FB’s plan for penetrating China?

• How are the privacy concerns going to be handled? What else might come out of the closer FTC scrutiny of Web firms’ use of personal data?

• How long are insiders/VCs going to be locked up? Are they committed to holding onto shares for the long haul, or are they cashing out at the IPO or as soon as possible thereafter?

What I learned from Facebook’s filing was that they have 161 million active users who actually go to Facebook.com each month. That’s not shabby — but it’s a far cry from the MAU claims of 850 million. That definition of active users is probably overstated by a factor of 500 percent. I suspect that the $100 billion valuation may be overstated by nearly as much.

Me? I’m sitting this one out.


Ritholtz is chief executive of FusionIQ, a quantitative research firm. He is the author of “Bailout Nation” and runs a finance blog, the Big Picture.


Category: Apprenticed Investor, IPOs

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

16 Responses to “Less than meets the eye at Facebook”

  1. nweaver says:

    I agree that facebook is MASSIVELY overvalued, but…

    a: The cost of the Like infrastructure is very small (by big-data standards, its pretty small traffic), and the benefit huge: Its basically a global-web-wiretap: Any page with the Like button viewed (NOT LIKED, just viewed) by a logged-in facebook user records that THAT user visited THAT page at THAT time. And for someone who’s NOT logged in, it can still obtain tracking information (a pseudonomous ID + IP). (Countering this problem is part of my active researcher: we have a firefox extension, Priv3, that is designed to block this tracking)

    Look at the recent NY Times article on Target to get an idea of what can be done with such mounds-of-data.

    b: Facebook doesn’t need to limit itself to adds on Facebook. Just as Google is a global advertising company driven by massive amounts of ‘spying on users’, Facebook could be the same thing. IF Facebook started to act like Google/DoubleClick, as a broker for ads on other sites, they could use the massive, massive, massive reams of data they are collecting on people (IMO, they are even better at it than Google) to really provide an effective advertisement network .

    Basically, this is the test for Facebook: If Facebook remains a walled garden, its 50X overvalued: it only gets a chance to make money from people who actually visit their site.

    But if Facebook turns its massive-wiretapp into advertisements on pages outside facebook, they can go (for real) head-to-head with Google and start to get some of the huge piles of money Google makes on people.

  2. teraflop says:

    China is a non-starter. Governing forces there can read “XXX Spring” headlines (eastern europe, arab, etc.) just like we can and they’re still nursing sores from Tiananmen and Tibet. So it’s unlikely a liberal (meaning, user-nurtured) Chinese-language version of Facebook can clear hurdles without being hobbled. Chinese nationals (in China) I know and work with already use equivalent alternatives (e.g., QQ) to interact with each other.

    And as much as the Facebook pages of those I know are sober, fun, honest, and relationship-oriented, I have seen pages similar to the madness of Myspace and I can’t unfriend them soon enough. How long will it take Facebook to self-pollute.

  3. MayorQuimby says:

    Sit it out? Wait for the pop and short it!

  4. Bob A says:

    but that Mark guy looks so cute. he wouldn’t screw me would he?

  5. Tim says:

    The counts are also rigged by an observation I’ve shared with several friends: Periodically they’ll email you telling you that your account has become inactive and you have to log in to reactivate — even if you’re not active you’ll probably do it. Farcebook: The poster child of the second wave of Tech boom then bust. And Goldman Sucks.

  6. rjbcg says:

    I can’t comment (meaningfully) on Facebook’s valuation, but I will take issue with you on the value of MAU and DAU.

    My understanding is that the value of a consumer/FB user to a potential advertiser increases as the quantity AND precision of the information about that user’s taste’s, values, purchases, interests, etc increases.

    Therefore, it seems to me that the DAU metric is meaningful because it means the overall precision of FB’s information about its user base is increased almost **five hundred hundred million times per day**.

    While it may seem that a single ‘like’ button click is insignificant, that incremental – almost infinitesimal – increase in the precision of the info about a person is, in the aggregate and over time, both meaningful and valuable.

    How valuable?

    Well, I think one could make an argument that the MAU/DAU metric should be complimented by a measure of the breadth of the capture net that is reflected in the number. How many different sources contributed to the DAU? As more and more sites and 3rd party apps link to FB in one way or another, the increase in the diversity of sources of information is perhaps as important as the actual MAU/DAU number itself.

    You could think of this as an example of Scott Page’s diversity prediction theorem, which states (roughly), that the error of the estimate (of the consumer’s preferences) = avg error from any one web site (or 3rd party FB app) – diversity of web sites from which estimates are drawn. (…w/ apologies to Page for transmogrification…).

    I’m guessing that since MAU & DAU are now enshrined in the S1, our best collective move is to make them as useful as possible….thus while I do think that DAU “touches” in fact do improve the underlying precision of FB’s person model, quantitative measures of the breadth of the capture net would be an important addition to help us more accurately “value” the MAU and DAU stats, and thus FB itself.

  7. Greg0658 says:

    umm .. moving from Whitney timespace to TBP space .. a rising tide floats boats / a fast tide can sink a tied down ship … but equally / NOT … you all love it – somebody trying to fill space … feed me – make a wave to ride

    luv yas .. your such a mind bend in your own ways : -)

  8. david_12321 says:

    The more you make fun of her, the more red lipstick they will use when she comes out. Not since Enron has so many investors been confused with the word value and investment and Facebook in the same sentence.

  9. LLouis says:

    Is a facebook user one person or one profile ? I heard of a coworker who has a dozen or more profiles registered with different emails, just to have more success in his facebook zenga games …

    and how much active INTERNET human individuals is there (outside china) ? maybe less than facebook active ”users” ???

  10. number2son says:

    Barry, are you sure clicking that “Like” button isn’t monetized somehow? Here’s one possibility: that thing you liked is recorded by FB and then sold to marketers. And they use that information to focus advertising that appears on just about every site you visit. Which you do not see, of course, if you have invested in one of the internet’s best pest prevention programs – AdBlocker.

    Ironic, isn’t it? Half the back end activity on the webs is about finding out who you are, what you do, where you live, what you like and don’t like, while the other half comes up with inventive ways to protect you from those who try to exploit you by gathering and presenting you with content based on that information.

    Sorta like Dr. Suess’s fable about the Sneetches.

  11. number2son,

    “…The Sneetches is one of Dr Seuss’s most under- rated stories and for some inexplicable reason it is not as widely known as many of his other books…”


    way to ‘contribute’ to ‘the Trend’..~

  12. streeteye says:

    They’re good points, but worth noting that Facebook is pretty sticky, there aren’t that many users who click ‘like’ buttons but don’t go to Facebook regularly. (I go regularly but never click ‘like’ – Nielsen comes up with 151m US web site visitors, comScore 162m vs. Facebook’s 161m US MAUs – http://tcrn.ch/x0k6yn ).

    On the other hand, Facebook does no mobile ads, so they could have active users who visit all the time and never see an ad. So an interesting question is, how fast will users go mobile vs. Web and how fast will the mobile ad market grow?

    (the answer to when FB will penetrate China – when the Communist Party is no longer in charge. If Google couldn’t penetrate China, Facebook has no shot without far more unseemly cooperation)

    A pretty sophisticated valuation attempt comes up with around $70b, but without a Zuck haircut (he is a liability, as is lack of shareholder control).

    I put some thoughts up at the link below – basically… Facebook has forced Google’s hand, since FB has more private info they can charge higher ad rates for better targeted ads; more time is spent in social apps, discovery is moving to social from search. So Google has to bet the company on G+ or see their business disrupted. But either Google is cheap or Facebook is expensive, or both.

  13. Greg0658 says:

    yesterday I was a bit cryptic .. have this well done painting I picked up at a resale shop – title “The Office Products Dealer” – a watercolor of shelving units filed with blank reams of paper – a cheshire cat smiling face on the phone .. point: a nice middle ground job* between – the toils of a factory /*/ fill’g blank space to have additional value

    imo Facebooks value is slightly higher than provide’g blank reams of internet paper – so the hardware manufacturers can exist … the whole who made who

  14. Ashley Lutz says:

    Gamestop to J.C. Penney Shut Facebook Stores: Retail

    Last April, Gamestop Corp. (GME) opened a store on Facebook to generate sales among the 3.5 million-plus customers who’d declared themselves “fans” of the video game retailer. Six months later, the store was quietly shuttered.

    Gamestop has company. Over the past year, Gap Inc., J.C. Penney (JCP) Co. and Nordstrom (JWN) Inc. have all opened and closed storefronts on Facebook Inc.’s (FB) social networking site.

    Facebook, which this month filed for an initial public offering, has sought to be a top shopping destination for its 845 million members. The stores’ quick failure shows that the Menlo Park, California-based social network doesn’t drive commerce and casts doubt on its value for retailers, said Sucharita Mulpuru, an analyst at Forrester Research in Cambridge, Massachusetts.

    “There was a lot of anticipation that Facebook would turn into a new destination, a store, a place where people would shop,” Mulpuru said in a telephone interview. “But it was like trying to sell stuff to people while they’re hanging out with their friends at the bar.”

    A year ago, investors hailed so-called F-commerce as the next big thing, speculating that the company had potential to threaten Amazon.com Inc. (AMZN) and PayPal Inc. Facebook is the most- visited website in the world. Some people thought that persuading visitors to shop would be easy, Mulpuru said. David Fisch, Facebook’s director of business development, said in June that the site would make shopping online, previously a solitary experience, more social.

    Even as some businesses shut storefronts, many companies continue to devote advertising dollars to the social network. Facebook’s sales surged 55 percent to $1.13 billion in the fourth quarter. The company aims to use e-commerce more as a way of getting users to stay longer than as a way to boost revenue, said Krista Garcia, an analyst at EMarketer Inc. in New York. Chris Kraeuter, a Facebook spokesman, declined to comment.

    Customers had no incentive to shop at Gamestop (GEM)’s Facebook store rather than the company’s regular website because purchasing online is already convenient, said Ashley Sheetz, who is the Grapevine, Texas-based company’s vice president of marketing and strategy.

    Shut Quickly
    “We just didn’t get the return on investment we needed from the Facebook market, so we shut it down pretty quickly,” Sheetz said in a telephone interview. “For us, it’s been a way we communicate with customers on deals, not a place to sell.”

    Gap (GPS), which has 5.6 million Facebook fans from its namesake, Banana Republic and Old Navy pages, opened and discontinued a storefront last year, said Liz Nunan, a company spokeswoman. The San Francisco-based company also discovered customers preferred shopping on its own sites, she said.
    “We will continue to evaluate if this is something we want to bring back in the future,” Nunan said in an emailed statement.

    Nordstrom tested ways to make shopping “seamless through Facebook” and decided on a broader social media focus, Colin Johnson, a spokesman, said.

    J.C. Penney featured assortments in a Facebook “shop” tab beginning in 2010, and took it down in December 2011, Kate Coultas, a spokeswoman said in an emailed statement.

    Cracks in Model
    Wade Gerten, chief executive officer of social media developer 8thBridge, previously known as Alvenda, opened a Facebook store for the florist 1-800-FLOWERS. Minneapolis-based Gerten went on to develop commerce strategies for Delta Air Lines Inc. (DAL), Diane Von Furstenberg Studio LP and denim-maker Seven for all Mankind.

    Cracks in the model showed quickly, Gerten said in a telephone interview. Clients “have taken a different approach,” shutting stores or scaling back their offerings.

    “It was basically just another place to shop for all the stuff already available on the retailer websites,” Gerten said. “I give so-called F-commerce an ‘F.’”

  15. Greg0658 says:

    Ashley interesting background story, sounds like your in the 3Dgame. I’d bet that Facebook would have the connections to drive a 50% off firesale of Gamestop titles anyday. I think you and the manufacturers are hitting the nail of what Facebook is – and where/how people would ultimately shop after being enticed – ie: the official site or other Like’d discounters.