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Takeaways from Facebook’s Q2 earnings call July 30, 2012

Posted by David Card in Uncategorized.
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Last Thursday, Facebook did its first earnings call as a public company. Though it showed a solid 32 percent revenue growth to $1.2 billion, reactions were mixed at best and the stock suffered. Unrealistic expectations are causing people to overlook Facebook’s fitful progress in online advertising, and signs that it really does have a clue in mobile.

Here are the important takeaways from the call. Executive commentary is taken from the transcript.

Its business model appears solid. Advertising sales were up 28 percent to $992 million. Observers seemed far more disappointed by slowing revenue growth than by Facebook’s loss, that was driven by $1.3 billion in stock-based compensation expenses from its IPO. Excluding that, the company showed a healthy 43 percent operating margin, and would have had a $515 million operating profit.

With 955 million active monthly users, Facebook’s user base is huge and growth is naturally slowing. Still, Facebook claimed that the number of monthly users even in the mature U.S. market was up versus the last quarter, and that it detected no slowdown in activity, even among younger users. So much for the “fad” fading.

Its role in online advertising is expanding. Before and during the call, Facebook has been trying to illustrate that its social media advertising platform can be effective for marketers, even as it remains cautious in its deployment of ad formats. The company is paying to do the necessary research to show off its advertising ROI, and it is poised to gain significant share even without making much of a dent in brand advertising. Home-grown display ad revenue from the big three portals – Yahoo, MSN and AOL – was flat or down this quarter. Facebook is the only big player growing sales of display ads it sells on its own site; the portals and Google are growing via ad networks.

Facebook attributed its ad revenue growth to an 18 percent increase in the number of ads delivered and, more important in the long run, a 9 percent hike in price per ad sold. It boosted the number of ads shown per page, but that effect was muted by mobile usage. In fact, the number of ads shown in the U.S. actually declined two percent. Facebook managed to counter that by being able to charge even more in the U.S. with its Sponsored Stories social units that show in the news feed. U.S. CPMs were up over 20 percent. That U.S. figure is quite promising for future Facebook growth.

It’s starting to monetize mobile. Half of Facebook’s monthly active users came from mobile devices. CEO Mark Zuckerberg said mobile users were 20 percent more likely to use Facebook on a daily basis than web users. He said that by the end of June, Sponsored Stories were generating $1 million in sales a day, half mobile. At that rate, it won’t take long for Facebook to be a leading player in mobile advertising. Of course, that’s an easy thing to say, as it only takes $100 million a year to be a “leading player.” Google is the only company with a billion-dollar mobile ad business yet.

Facebook blamed relatively flat sequential growth in fees revenue to mobile gaming, where most social games don’t use its payment system. It’s an open question whether Facebook can take its payment system beyond its site. But it sounds like it won’t be using a Facebook phone to do so. In response to a question about integrated mobile devices versus apps, Zuckerberg said, according to the transcript, “There are lots of things that you can build in other operating systems as well that aren’t really like building out a whole phone, which I think wouldn’t really make much sense for us to do.”

Facebook’s near-term success depends on how it works the following:

  • Ecosystem mining. Zuckerberg hinted that Facebook wouldn’t take as big a cut – in terms of ad spending as well as its 30 percent fee on virtual goods – from other businesses that use its platform as it does from social gaming. That’s not just a mobile issue: he specifically mentioned web-based music and e-commerce.
  •  Ad expansion. Facebook said fewer than half its ads were social, and a very small percentage were Sponsored Stories. Critics make a valid point that many Facebook advertisers come from its apps ecosystem. But COO Sheryl Sandberg described a $2.75 million campaign from Electronic Arts for the Battlefield 3 console game. Brand advertisers are very interested in social marketing, but they’d also appreciate a few more traditional formats as well.
  •  Mobile substitution. Facebook said daily web usage in the U.S. declined relative to mobile. To-date, mobile usage has been incremental to more ad-friendly web usage. Google is worried about mobile search ad CPC. But while Facebook’s mobile ads look relatively cheap, it’s demonstrating that in-stream ads can carry a premium over other formats.

The victim of expectations, Facebook’s IPO and public market performance is a wet blanket on consumer and social media startups. But Facebook itself is building what looks like a sustainable business with the potential to accelerate its growth engine in the next 12 to 18 months.

Question of the week

Where will Facebook’s growth come from?
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