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Facebook Revenues Suffer Amid Advertiser Dissatisfaction

July 10, 2013

By: Mike Anthony

To put it mildly, Facebook (FB) has struggled to gain the trust of advertising clients. Last summer, Limited Runclaimed that 80% of pay-per-click ad clicks on Facebook came from clickbots, sparking national outrage and weeks of media coverage. Shortly thereafter, the Advertising Research Foundation claimed that blank white ads performed almost as well as real ads on Facebook. Shares soon fell to 52-week lows amid claims of fraud, and weak earnings numbers did nothing to buoy investor confidence.

Citigroup analysts recently concluded that Facebook is losing its battle against “continued monetization headwinds,” J.P. Morgan analysts say the company is “losing mindshare,” and the Wall Street Journal has been detailing the “constant stream of insider selling” over the past year.

With Facebook still struggling today in the mid-$20s per share (down from a high of $45 on the day of its IPO), many investors wonder if ads on Facebook work. At all. Sure, Facebook might be the world’s largest social network with the most targeted data on its users, but is it really able to use that data to sell effective ad space to advertisers?

The bottom line is that advertisers will only continue paying for Facebook ads if the users who click on those ads buy things. Maybe Facebook users are not in the mood to buy things as much as, say, Google (GOOG) users.

Google currently leads Facebook in revenues by a landslide. As of the most recent fiscal year, Google generated $43 billion from online ads versus Facebook’s $4 billion. Google’s clients are also more confident than Facebook’s clients. Google’s top client (Lowe’s) spent $59 million on Google ads in 2012; Facebook’s top client (AT&T) spent just $23 million. Google’s lead continues all the way down the list: its tenth client (Uline) spent $35 million versus Facebook’s tenth client (Daimler) at just $9 million. Perhaps the most shocking disparity is the percentage of users who click on an ad after seeing it: the Click Through Rate (CTR). Google’s global average CTR in 2012 was 2.00%, 40 times higher than Facebook’s 0.05%.

So the question remains, do Facebook ads work as well as Google Adwords or other competitors like Microsoft Bing Ads? Will Facebook be able to take significant market share from these industry titans, or will it continue to struggle monetizing its user base like it has struggled over the past year?

To make things worse, many advertisers are evading Facebook altogether and finding more effective ways to advertise through content. Here is an example. The Aruba Tourism Authority wanted to advertise to people considering a vacation, yet it was disappointed in the results of Facebook ads. Instead, it decided to pay bloggers to write about visiting Aruba. Travel blog readers are naturally interested in travel and are perfect candidates for a vacation package. As it turns out, Izea, Inc. (IZEA) provides a marketplace that allows advertisers to pay bloggers to write about specific topics. Through this marketplace, travel blogger Jonny Blairagreed to write a sponsored blog post for the Aruba Tourism Authority.

This hyperlink shows Blair posting this sponsored blog on Facebook.

This ad appears in the main newsfeed of Facebook and looks like real content. Indeed, it is. Although Blair disclaims compensation for the post, he proudly notes, “All opinions are 100% mine.” Meanwhile, Facebook receives no revenue for this ad whatsoever.

This type of “advertorial” or “sponsored posting” advertising is growing in popularity, and its growth will not benefit Facebook’s shareholders. By 2017, BIA Kelsey estimates that native social media advertising will outpace traditional ads. All payment for these types of ads occurs in outside marketplaces like those operated by IZEA, and the sponsored content is simply posted for free by Facebook users themselves.

Sponsored advertising revenues at IZEA grew 35% in 2010, 13% in 2011 and 16% in 2012. The double-digit growth continues, with revenues hitting all-time highs this summer. Research firm Nielsen found that not only is advertorial growing, but advertisers are substituting advertorial for ads. The firm’s report concluded that 23% of social media advertising is paid out of the dollars formerly allocated to traditional display ads. This is bad news indeed for companies like Facebook.

With innovative competition from IZEA and other non-traditional marketplaces, Facebook shareholders grow more uncomfortable. When will the social network be monetized? How? Even at current share price levels, Facebook is valued at over 30x earnings and 11x sales. Is this too generous given such widespread advertiser dissatisfaction?

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