How Facebook Uses Its Users

Posted: Apr 11, 2018 11:55 AM
How Facebook Uses Its Users

Recently I wrote about warning signs that showed up in Facebook’s financial reporting, valuation, and corporate authority structure. These warning signs were the reason the portfolios I help produce held Facebook at a zero weighting. Mainly I focused on forensic accounting problems. There were signs that the company may have been incented to gild the lily in its financial reporting. Whether they've truly gilded it or not, it's hard to keep the lily growing and blooming fast enough to keep up with expectations. Growth expectations are, indeed, the issue.

That's why the financial statement analysis showed some flags in sales and revenue growth – they’re too high. But high growth is good, right? Yes, real high growth is a blessing, but it comes with problems - for example, the encore problem. You get known as a growth company and woe-betide-you if you have a quarter without growth. Growth companies ride the tiger of expectations. This creates very strong incentives to tweak things here and there to keep the appearance of momentum going.

As we've said, too much growth creates forensic accounting temptations. But what if management resists the temptation to distort the financial reports about operations, and instead opts to actually goose the operations of the company in order to keep growing at that accelerated pace? Well, that creates another problem - quality control. It's very hard to grow fast for a long time and not start messing up. This culture of 'move fast and break things' (an actual Zuckerberg mantra) makes good fodder to keep the coders putting in long hours, but one of the things that can get broken is customer trust. Data breaches like the ones we've seen recently are endemic to hyper-growth companies with encore problems. Remember Equifax? It had the same problem, which I wrote about in detail here.

Facebook has actually had these problems for a while. They've had many privacy violations, broken promises and apologies before, but it's just at frenzy level now due to hyper-scrutiny. The new level of scrutiny probably has something to do with the fact that the press already loved the 'Russia meddled in our election' story, perhaps because many in the press have an adversarial relationship with the president (and vice versa). The data breaches which involved Cambridge Analytica fit that narrative beautifully and moved this to the top business story of the day/week/month/?.

A company in an all-fired hurry doesn't just deal with unintentional mess-ups, it also ends up committing intentional mess-ups, which is to say that it will tend to muddy the ethical waters. Let's face the fact that a big part of Facebook's problem is its business model. As Tim Cook, CEO of Apple, pointed out: Facebook’s users are not really its customers; they're its product. Now, of course, that's true of almost any media company, or at least any media company that lives by advertising. When you watch television, you are not the customer, you are the product. The advertisers are the true customers, and the media company is selling soap sellers access to your eyeballs. Okay, we're all used to that already. Social media like Facebook is different, though. Unlike TV, whenever you're watching social media, social media is watching you. And it sells what it sees to its real clients, its advertisers, which includes political campaigns. But people don't like to have their eyeballs and their personal information sold. There was bound to be some kind of collision. Facebook was always going to have real trouble growing into the hyped expectations built into its high valuations, which made it probably not worth the risk, which is why we didn't own it.