Facebook's Ad Problems Add Up (Part 1)
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Facebook (NASDAQ: FB) shares hit record lows last week, dipping below $20 for the first time since its IPO launch, following its second quarter report and a handful of negative news stories. Investors didn’t like what was displayed and continued the pessimism throughout the week. There was good reason for that – the ad problems are adding up.
Second quarter revenues were $1.18 billion. Advertising accounted for 84% of that total while the remainder included payments and other fees, most of which came from Zynga (NASDAQ: ZNGA)’s in-game purchases. I’ve previously discussed Zynga’s monetization issues, which will impact Facebook due to the fact that Zynga accounted for 12% of its revenues this quarter. The more central problem for Facebook is that its advertising segment is suffering.
The latest quarter showed a 2% decline in U.S. ad units from last year. Daily active users (DAU) increased 10% during that same period. The disparity comes from the fact that the growth in web users declined while mobile users grew. I’ll discuss Facebook’s mobile ad problem in-depth in Part 2. First, it’s worth looking at an overall issue the company is having with potential advertisers: lack of belief in the value of its services.
A freshly breaking issue concerning investors, and potential advertisers, is the revelation that nearly 9% of Facebook’s current 955 million active users are fake accounts. What are fake accounts? Most of the fakes are duplicate profiles for people who already have a legit profile. A smaller portion consists of “misclassified” accounts, meaning that a business is listed as a person or the profile was created for a pet. The smallest slice consists of “malicious” accounts, which are created mostly for spamming purposes. It’s reasonable to assume that the number of fake accounts is higher than what Facebook has discovered thus far.
Why does it matter if there are fake accounts? Facebook is competing in the ad arena with companies like Google (NASDAQ: GOOG), which owns its own ad company and dominates web based advertisements. Google has an advantage because when a user types into a Google search field, there’s a defined purpose in mind: searching for a specific keyword(s) that can then be paired with relevant ads. Facebook’s advantage is its close grip on the personal information for its large base of users. Fake accounts often lack the information that FB needs to utilize that profile for targeted advertisements.
The fake account story was hyped because it reinforced long-building concerns about the effectiveness of Facebook advertising campaigns. General Motors (NYSE: GM) announced in May that it planned to stop advertising on Facebook. GM questioned whether the Facebook ads actually led to more consumers purchasing a GM automobile. The company is now in talks to reinstate its campaign, but the damage of such a public doubt is done.
Limited Run, a small digital music site, claimed in a recent blog post that 80% of clicks its FB ads received were from bots. The claim plus Facebook’s (initial) inaction spooked investors. There was never any claim that Facebook was behind the bots, and the FB investigative team hasn’t seen any evidence of the bots thus far, but the industry and market reactions again spoke volumes on the average confidence the ad system inspires.
The fact is that Facebook has to win over advertisers used to operating in more traditional of online marketing routes, such as one of Google’s networks. Google has more of a proven track record and transparency surrounding advertising metrics such as CTR, or Click Through Rate. Facebook has been reluctant to release advertising specifics to the public.
The advertising doubts can’t be chalked up to simple IPO jitters. This chart compares the advertising revenue growth of Google’s immediately post-IPO period with that of Facebook.
The Coming Months
Facebook needs to demonstrate that its ad strategies are worthy investments for advertisers. That should include transparency in advertising metrics, preferably directly compared to Google, and strong signs that fake profiles and bot issues are being addressed in a timely manner.
Tune in for Part 2, where I outline FB’s mobile advertising issues.
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