Facebook and the ‘free’ fallacy

20th August 2012

It's glass half empty, or glass half full time as the personal wealth of Mark Zuckerberg, Facebook  co-founder and chief executive falls along with his firm's tumbling share price.

With shares in what must have the world's most hyped IPO collapsing from $38 when sold to outside investors in mid-May to just $19.80 now – a drop of nearly 50 per cent – Zuckerberg's personal fortune has mirrored the free-fall. His holding is now valued at $10.2bn – down from $20bn on day one. On just one day last week, his potential bank balance took a $600m hit.

The glass half empty view is that he's lost around $10bn.  And irrespective of the fact that he still can't sell his shares due to the lock-in terms, any attempt at disposal by the boss would send the quote into further fast accelerating oblivion.

The half full version is that his one-fifth of the Facebook action is still worth over $10bn which is a whole load more than he ever paid for the stake. He's also in good company – all his fellow executives are in the same leaky share boat.

As the price declines, it makes expansion options more difficult – it becomes harder to buy companies in exchange for equity.

Taking the freedom out of free

Taking a look at the numbers raises questions both about Facebook itself but also about the wider implications of "stuff for free" whether on or offline. Investors have to ask whether Facebook can continue its no-fee to users concept – along with most other social media such as Twitter or Linkedin – or whether it need to institute charges.  The same goes for non-social media such as newspapers and broadcasters while the argument about "free" stretches to banking, financial advice and, taking it into even more complex territory, it takes in healthcare, education, benefits, and the  local authority tasks such as refuse collection and public libraries.

Zuckerberg's present personal wealth for his one-fifth stake equates to around $11 per subscriber – it's $55 per user for Facebook's entire equity.  Yet the company's revenue (turnover or sales) figures – not its profits – show that cash coming in from having data on up to 900 million users worldwide equates to around $6.50  per individual in the current year. It could try to make a better effort from mobile and tablet applications but, even with the share value halved, it's selling on nine times present revenue.  No wonder, there are precious few bullish analysts.

"The market is not convinced of Facebook's future," David Kirkpatrick, author of "The Facebook Effect," a history of the company, said. 

But for some, there are opportunities in Facebook's fast falling share price. Business Insider reporting the Wall Street Journal quotes figures to show that Wall Street bankers were paid $176 million in fees  to sell the IPO.

Now, many of the self same banks – albeit departments separated by Chinese Walls – have made a further $100m by shorting Facebook, betting that the price would drop a process known positively as  "price stabilisation."  Of course, the mind boggles as to what the price might have been without their helpful intervention.

Whilst all this is galling for investors sucked into the IPO, the more general point is how to monetise what appears to be free. As the switch to digital increasingly speeds up, few have yet come up with an answer that is both attractive to the profit line and to users.

Putting the genie back into the bottle

"Free stuff" is a genie that is almost impossible to put back into the bottle. Newspapers have lost readers to online – currently they have to choose between paywalls and free access. Neither has been a great financial success.

The banks have offered "free" current accounts to customers in credit for over 30 years. The costs were carried by lending the money at high interest rates (no longer available), and by charging high fees to anyone dipping into the red (difficult to justify and unpopular).

Banks have also sought to defray "free" with monthly fee-charging accounts offering extra benefits such as phone insurance or better interest rates. Some "packaged accounts" have been mis-sold, with customers paying for extras which they cannot use or do not want, leading to FSA action.

The high street banks are currently making an assault on the "free" concept – their most bizarre argument is that had they been able to charge for accounts on a usage basis, they would not have had to sell (mis-sell) the payment protection insurance for which they are now accountable for as much as £10bn in compensation.  As one (unnamed) banker put it, "This is a bit like the Mafia saying that because we have prostitution tied up, we won't bother with drugs."

IFAs hit  fee-charging face-off

Weaning people off "free" will be tough in financial advice, suggest figures from consultants Deloitte.

The survey shows that when fee-based charging structures become the norm in January following the introduction of the Retail Distribution Review and the end of commission on investment products, the financial advice world will have its work cut out to deliver its message to customers.

It finds 54 per cent of consumers would refuse financial advice if they were charged a fee while 47 per cent said they would see an adviser less frequently if they were charged between £400 and £600.  But both of those numbers are dwarfed by the 84 per cent of people who are unaware that they will have to pay a fee for advice when RDR is implemented.

RDR rule changes are intended to produce better deal for consumers by putting a stop to practices which appear to put the interests of fund managers and intermediaries – rather than the investor's – first. But this could be counter-productive. Deloitte says: "Financial advisers will be required to charge their customers a fee for advice rather than being paid by commission. Our research indicates that many consumers, particularly in the mass market, are unwilling to pay such fees."

For financial advice, it may mean the gap between the amount of advice advisers say is necessary and that provided – is likely to increase as IFAs leave the industry or focus on wealthier customers.

Or it could mean more power to self-directed investors who believe that they can research homes for their money at least as well as those who will collect fees in the future.

But as with Facebook, as with media, as with banking and so much else, getting the consumer to pay for something that they believe is free will be an uphill task


More on Mindful Money

The growth delusion

The billion dollar club

Would you pay to use Facebook?

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