Facebook pays price for privacy scandals and needs to win back users

26 Jul 2018

The entrance to Facebook’s headquarters in Silicon Valley. Image: Sundry Photography/Shutterstock

Facebook user growth is flatlining and investors know it.

The first half of 2018 has been a nightmare for Facebook, the one-time darling of the markets that at one point could do no wrong.

Beset by privacy debacles such as the Cambridge Analytica data scandal, Facebook has seen its stock plummet by close to 25pc in just one night as investors vote with their feet over a disappointingly brutal second quarter.

‘We’re investing so much in security that it will significantly impact our profitability’

The Cambridge Analytica scandal, the ‘fake news’ epidemic, security issues, Russian meddling, and puzzling content moderation and safety policies have all shaken investor confidence in the social network.

You could feel it in the terseness of CEO Mark Zuckerberg’s statement, which must have been finessed a thousand times by flacks and legal eagles. “Our community and business continue to grow quickly. We are committed to investing to keep people safe and secure, and to keep building meaningful new ways to help people connect.”

The tight-lipped words did nothing to calm investors and now Facebook is paying the price of the mounting privacy and safety scandals.

The company’s share price closed Wednesday (25 July) at a record high of $217.50 but, following the company’s earnings call after the financial results were issued, the stock fell to $172. That represents a market cap drop of roughly $123bn. That’s more money than a lot of companies or even countries’ economies combined.

So, what spooked Facebook’s investors?

On the face of it, things look OK, as the company grew revenue 42pc from $9.1bn a year ago to $13bn in Q2.

Profits were up 31pc to $5.1bn from $3.8bn a year ago.

So, it should be rosy, right? Wrong.

Revenues are growing far slower than the markets expected and not only that but user growth is slowing and is pretty much flat quarter to quarter.

Facebook’s monthly user count in Q2 grew just 1.5pc compared to 3.1pc growth in the previous quarter (Q1).

Daily active users now stand at 1.47bn, up 11pc on last year, but this is up just 1.4pc compared with Q1.

Simply put, Facebook has hit a wall, the cracks are showing in its financial façade, it is no longer seen as bulletproof, and it is the users, not just the investors, who are spooked.

This will have ramifications for revenue growth, as confirmed by chief financial officer David Wehner, who said in the earnings call: “Our total revenue growth rates will continue to decelerate in the second half of 2018, and we expect our revenue growth rates to decline by high-single-digit percentages from prior quarters sequentially in both Q3 and Q4.”

Facebook is also spending very heavily on security to put things right, but this will eat into profits – another thorn in investors’ sides.

It has increased its headcount by 47pc to 30,275 people, and a large part of that increase is on security and safety resources.

“We’re investing so much in security that it will significantly impact our profitability,” Zuckerberg said in the earnings call. “We’re starting to see that this quarter.”

Facebook reported that it has 2.23bn monthly users, and mobile advertising represents 91pc of advertising revenue.

The wolf still has teeth. And it is still in the fight. Fundamentally, it is far from broken and it is still a giant business with healthy profits and enormous revenues.

However, investors are a fickle lot and, importantly for tech stocks, it is worth noting just how fickle they can be, as Netflix recently learned to its cost. A shortfall in subscriber growth reported last week sent Netflix’s stock plunging 14pc.

The first half of 2018 has shown that Facebook is far from bulletproof and has its work cut out to assure investors and, crucially, and perhaps most importantly, its users.

The lesson in all of this is that user growth is king for investors right now.

For Facebook, it needs to double down on privacy and safety, and avoid scandals, in order to keep users coming.

The entrance to Facebook’s headquarters in Silicon Valley. Image: Sundry Photography/Shutterstock

John Kennedy is a journalist who served as editor of Silicon Republic for 17 years