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Analyst: ‘We Don’t Understand’ How Facebook Makes Money

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File photo of Facebook CEO Mark Zuckerberg. (credit: YURIKO NAKAO/AFP/Getty Images)

File photo of Facebook CEO Mark Zuckerberg. (credit: YURIKO NAKAO/AFP/Getty Images)

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WASHINGTON (CBSDC) – It hasn’t been another ho-hum week for Mark Zuckerberg.

After Facebook closed at a record low of $17.73 a share following Morgan Stanley expressing concerns of the company’s ability to connect to mobile users with ads, Zuckerberg, the company’s founder, listed in a regulatory filing that he would not sell any of his 504 million shares for at least the next year. On Wednesday, the company’s IPO jumped 4.4 percent to $18.51. Today, with the company trading around $19 a share, Facebook closed its purchase of Instagram, a deal now valued at around $737 million instead of the $1 billion price tag at the time of agreement in April.

But even with the IPO uptick from Zuckerberg’s vow and the closing of the largest acquisition in the company’s history, questions continue to linger about the long-term economic health of the Facebook brand and the lack of company-to-investor transparency from a young company that has seen its IPO plummet considerably in the months since the social-media juggernaut went public. Facebook’s price target continues to sit more than $13 below the Wall Street average of $32.63. Since April, Peter Thiel, Facebook’s first significant investor, has sold off most of his stock in the company to the tune of more than $1 billion – $638 million when the IPO was initially listed at $38 a share and another $400 million last month when the IPO dipped to $20 a share.

Thiel selling off his additional stock last month was the first real indicator to investors that something could be substantially wrong with the company’s long-term economic trajectory and Morgan Stanley’s recent suggestion that Facebook faces trouble with maximizing its advertising revenue potential. Part of this comes from the company’s issues with effectively communicating with its investors about Facebook’s business model and where it’s going. Though there has been no hard evidence of a decline in the company’s business, perhaps the catalyst for the share-price decline has been the company’s poor communication to its investors, said Michael Pachter, a Wedbush Securities analyst specializing in social media.

“Typically, when companies go public, they prepare to hold investors’ hands and tell them what they’re doing,” Pachter said. “This company has been advised not to do that because they’re Facebook. Shareholders are showing them that they need to do it.”

Another driving force that has helped bring about Facebook’s nightmarish IPO decline and trust issues among potential investors is a lack of understanding for the model behind the company’s advertising strategy and, simply, transparency for how the company generates revenue and outlines its expenses.

“It’s not like other companies. There is no business model people can point to. There is no analogy to this company,” Pachter said. “What we have is a bunch of investors who don’t understand how the company makes money, a management team that is virtually silent, and the only indicator that the company is doing poorly is when Peter Thiel decided to sell.”

He added later: “We don’t understand how they make money.”

The complicated dynamic Facebook has helped spark from what analysts see as a lack of transparency is twofold. On one hand, sellers are far more likely to sell Facebook stock because they don’t know what’s going on. And when it comes to buyers, not having enough information from the company about its business model, expenses and future plans force many buyers to stay on the sidelines.

Arun Sundararajan is an NEC faculty fellow and professor of information, operations and management sciences at NYU’s Stern School of Business. This week, his Bloomberg op-ed titled “How Facebook Can Still Rule the Internet Economy,” outlined how Facebook’s recent woes won’t last for long if the company moves to expand digital marketing, pushing its advertising toward the kind of “deep technology-based customization” that would even surpass Google. In the coming months, Facebook is expected to face challenges in trying to tinker with a long-term vision of an effective business model to improve and capitalize on advertising revenue potential, while attempting to appease investors more concerned with their immediate losses as a result of owning Facebook stock. Sundararajan said the resentment from those investors who take on strategic decisions based on the projections of the next four quarters is bound to have an effect on how Facebook decides to move forward and try to grow its IPO listing.

“It highlights the tension a young company faces when it goes public, between investors and the financial team and its founders, the people thinking five years ahead versus the people thinking a year ahead,” Sundararajan said. “This is a great example of how this tension has played out.”

Media requests made to Facebook were not immediately returned.

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