Tag: google

Facebook, Cypherpunk and Psychohistory

Facebook, Cypherpunk and Psychohistory

One of the more notable financial news stories of the year so far is the decision of social media heavyweight Facebook to go public (an event we alluded to in our top 10 themes for 2012). The question on everyone’s mind is whether a potential $100 billion market valuation is appropriate for a company that had roughly $1 billion in net income last year. It wouldn’t be the first tech company to trade at a three digit P/E (we’re looking at you salesforce.com), but it would be the largest. We are going to leave the valuation question aside for a moment and think in broader terms.

In our view, there are a few factors to keep in mind when considering the lofty growth expectations that surround Facebook.

Fewer, poorer, new users: At 845 million relatively regular users, Facebook already has the cream of the crop when it comes to potential consumers. The economic elite — by far the most attractive consumers — are, for the most part, already on Facebook. The next billion users will have less spending power, and will not consume as many of the digital goods Facebook wants to sell them, nor will advertisers pay as much for access to them.

With the exception of China (where Facebook is banned), the network has no other large upper-middle class markets it can tap into. Since the next billion Facebook users will have more modest means and this could be a tricky cultural and business shift. Facebook initially set itself apart by limiting usage to select colleges. Over time it has successfully expanded availability to new demographics (older users and international users) . But its user base has always been the more affluent segment of each market.

By highlighting this, we’re not trying to diminish the broader value of an open social network and its ability to connect people and create opportunities for them. We hope Facebook continues to be another powerful Internet tool available to a person of modest means to foster deeper connections, expand their horizons and develop themselves. But we do recognize that social networks by definition will mirror divisions in societies, and certain virtual spaces will be more attractive than others to specific groups.

User disengagement: There’s a chance Facebook jumps the shark and usage drops. Despite its meteoric rise in recent years, Facebook operates in the notoriously fickle world of social media, where users may tire of a particular platform and seek out the next hottest thing (let’s not forget Friendster or Myspace, once robust social networking communities before Facebook came along).  While Facebook has done a phenomenal job building its user base and cornering the social media market, there are other platforms out there waiting to swoop in should there be a misstep (Google+), or capitalize if users ultimately decide they prefer to segregate their status updates (Twitter) from their picture sharing (Instagram) and location data (Foursquare).

In addition to the possibility of competitors poaching away market share, there is also a question as to how users will interact with the platform going forward.  We already see a divergence in the frequency with which men and women use Facebook. Women use Facebook much more regularly than men do. Over time, we could see photo-sharing and instant updates lose their novelty value for certain users who then disengage from Facebook.

Advertising could be ineffective on Facebook: It’s tough for an advertiser to grab a Facebook user’s attention when they are competing with photos and updates from their nearest and dearest. Ads on Google search are powerful revenue generators primarily because the user is searching for something and the ad is related to the search. A Facebook user, on the other hand, is visiting the site because they wish to see photos or updates of their family and friends. An ad on Facebook generally disrupts the user-experience.

Of course, Facebook could use the reams of data it has on each user to suggest a gift for your wife or girlfriend based on browsing or comment history; but this could easily mis-fire and be considered intrusive. Similarly, word of mouth recommendations are very powerful drivers of product sales, and Facebook is an effective medium for friends to share these; but advertisers tamper with word of mouth at their own risk. Our sense is that Facebook has become a virtual family gathering or a dinner party, and overt advertising or sponsorship will always feel slightly out of place at such an event.

On Facebook everyone knows who you really are, even if you’re a dog. All that said, there is one aspect of Facebook that sets it apart from virtually every other website and could end up being extremely valuable. From the very beginning, Facebook has insisted on “real names” and worked to keep anonymous or fraudulent identities off the platform. The result is that Facebook can tie virtually each of its 845 million users to a real-world identity. They have also built an authentication framework on their platform which other sites can use in lieu of asking users to pick new passwords or user ids. Since Facebook has photographs of all your friends, they can be used as a challenge if unauthorized activity is detected. Your ability to recognize your friends, along with Facebook’s knowledge of who they are, combined with a large photo database, makes it very difficult for an unknown attacker to try to hijack your profile. This has meant an enormous shift in the previously anonymous world that the Internet was, and it remains a rare and valuable commodity. It is a service Facebook could charge other sites for down the road. For Facebook, it may be the next big thing. Perhaps bigger than targeted ads.

Further Reading:

The genesis for this post came as a result of a wide-ranging conversation we had recently, and which led us to think about two of our favorite books…

The first is Neal Stephenson’s Snowcrash, a 20 year old book that predicted much of the impact the Internet would have on human society. No one who has ever read that book can underestimate what anonymity can lead to and what power accrues to an entity that can definitively identify 20% of humanity.

The second book is Asimov’s Foundation series, which is what got one of us interested in Economics and reinforced the constancy of human behavior.  Some of the conversation about 3-D printing and replicators also brought to mind Asimov’s gem, The Last Question.


Photo credit: Flohuels

Why Microsoft had to buy Skype, at virtually any price

Why Microsoft had to buy Skype, at virtually any price

People are scratching their heads about Microsoft’s acquisition of Skype and the price they paid. They shouldn’t be. Microsoft had to purchase Skype and in our view they would have paid even more to do it. It was a must-have strategic acquisition.

Google is running circles around Microsoft in cloud-based office-productivity and communications tool adoption by small-businesses. If you’re starting a company (or have a small company), Google will provide, at no cost:

  • E-mail (for up to 10 users) on GMail (used to be 50 up until yesterday)
  • Basic word-processing, spreadsheet apps
  • Chat, messaging, video-conferencing via Google Chat
  • Mobile computing via Android
  • Telephone services via Google Voice

It’s free as long as you’re willing to accept some advertising and you can pay $50 a year per person to remove the advertising. All of this takes about 15 minutes to set up for 5 people. Why would anyone want to deal with their telephone company again, or buy and set up a Microsoft-Exchange server, or buy and install Microsoft Office on 5 PCs. All you need is a PC or an Android phone and some form of internet connectivity.

There’s a race underway between Microsoft and Google to attract small and medium sized businesses and provide a full-range of office productivity and communication tools. The company that wins will generate the same sort of network-effect revenues that Microsoft has enjoyed for decades from the wide-spread adoption of Windows and Office by businesses of all sizes. Once individuals begin to use a set of tools it’s tough to make them switch to an equivalent unless the new features are compelling.

24 months from now, 20% of all US businesses, and 80% of new startups will be paying either Microsoft or Google $50-$100 a year per employee to provide the basic suite of office-productivity and communication tools.

Microsoft killed ResponsePoint last year, that was their small-business/VoIP offering, but it wasn’t really successful. They had to acquire Skype because if they didn’t they would be missing the last piece of the puzzle. Adoption rates for Hotmail and Micorosoft Office in the cloud would be minimal. Microsoft AdCenter would remain an also-ran to Google AdWords.

With Skype, they’ve got a recognizable brand for the next few years in Internet telephony, and the infrastructure and user base to build on.

For the moment though, Skype is a cheap way for consumers and road-warriors to make calls. Microsoft will have to extend Skype’s features and re-align its brand to appeal to a wider array of businesses and increase adoption in the office.

Google Voice already has a rich feature set, I’ll point out just two that people love:

  • Google Voice will transcribe voice-mails into text, so you can read voice-mails without having to listen to the message (you have to use it just once to understand how much quicker it is)
  • Google Voice will ring all your phones, in sequence or simultaneously when someone calls your Google Voice number if you want it to.

Google doesn’t really need anything Skype has to offer, they’re already on their way. The reason Google bid for Skype is on the off-chance they could buy it, migrate everyone to Google Voice and shut Skype down. If they’d succeeded, Microsoft would have had to build the VoIP in the cloud offering from scratch, which would have meant a two year lag.

Following the standard M.O., Google is offering all these services to colleges and schools for free. So the next generation will already be comfortable using them when they arrive at their first job.

The folks who should be really worried are telephone companies because their value-added phone-based services for businesses are going to be radically disrupted by VoIP combined with cloud-based features. PBX manufacturers and vendors should be worried as well, because all the switching technology and features they’ve spent decades developing into customized physical equipment and offering to small businesses via large sales-forces is going to become largely obsolete. What’s worse for the telcos is that this competition is coming from the two software companies with the deepest pockets and biggest cash-generation engines out there. Lawyering up or Lobbying up won’t work.

As of this article’s publication date, Washington Square Capital Management and its clients currently hold positions in Microsoft which may be subject to change. We  may in the future acquire positions in other companies mentioned in this post. This article is not an recommendation to buy, sell or hold any securities mentioned.