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8.1 Introduction

Learning Objectives

  1. Be familiar with Facebook’s origins and rapid rise.
  2. Understand how Facebook’s rapid rise has impacted the firm’s ability to raise venture funding and its founder’s ability to maintain a controlling interest in the firm.

It’s hard not to be awed by what Mark Zuckerberg has created. An effort launched from his college dorm is now a species-level phenomenon.L. Grossman, “Person of the Year: Mark Zuckerberg,” Time, December 15, 2010. Roughly one in every eight people on the planet has a Facebook account—an amazing track record given that Facebook is technically banned in China (taking about 20 percent of the world population off the table).J. Cassidy, “Facebook: The Ultimate Dot-Com,” New Yorker, May 16, 2012. Want to connect to customers? Facebook is increasingly the place to be. The firm has ranked as the most visited site in the United StatesL. Sumagaysay, “Facebooking More Than Googling,” Good Morning Silicon Valley, December 30, 2010. and is tops in display advertising.M. Walsh, “Facebook Drives 31% of Display Ads in Q1,” MediaPost, May 4, 2011. Global growth is on a tear, with an excess of 80 percent of Facebook users outside the United States.D. Kerr, “Facebook to Inaugurate New Office in Dubai,” CNet, May 23, 2012. Facebook is solidly profitable; in 2011 the firm earned about $1 billion on some $3.7 billion in revenues. And Facebook has accomplished all that with fewer employees than Google has job openings.J. Evans, “Can Anything Stop the Facebook Juggernaut?” TechCrunch, November 25, 2010.

The Rise of Facebook

Facebook founder Mark Zuckerberg looked like a social media pioneer from the start. Consider this: During the weeks he spent working on Facebook as a Harvard sophomore, he didn’t have time to study for a course he was taking, “Art in the Time of Augustus,” so he built a Web site containing all of the artwork in class and pinged his classmates to contribute to a communal study guide. Within hours, the wisdom of crowds produced a sort of custom CliffsNotes for the course, and after reviewing the Web-based crib sheet, he aced the test. Turns out he didn’t need to take that exam, anyway. Zuck (that’s what the cool kids call him)For an insider account of Silicon Valley Web 2.0 start-ups, see Sarah Lacy, Once You’re Lucky, Twice You’re Good: The Rebirth of Silicon Valley and the Rise of Web 2.0. (New York: Gotham Books, 2008). dropped out of Harvard later that year.

Zuckerberg is known as both a shy, geeky, introvert who eschews parties, and as a brash Silicon Valley bad boy. After Facebook’s incorporation, Zuckerberg’s job description was listed as “Founder, Master and Commander [and] Enemy of the State.”T. McGinn, “Online Facebooks Duel over Tangled Web of Authorship,” Harvard Crimson, May 28, 2004. An early business card read “I’m CEO…Bitch.”C. Hoffman, “The Battle for Facebook,” Rolling Stone, June 26, 2008, 9. And let’s not forget that Facebook came out of drunken experiments in his dorm room, one of which was a system for comparing classmates to farm animals (Zuckerberg, threatened with expulsion, later apologized). For one meeting with Sequoia Capital, the venerable Menlo Park venture capital firm that backed Google and YouTube, Zuckerberg showed up in his pajamas.C. Hoffman, “The Battle for Facebook,” Rolling Stone, June 26, 2008.

By the age of twenty-three, Mark Zuckerberg had graced the cover of Newsweek, been profiled on 60 Minutes, and was discussed in the tech world with a reverence previously reserved only for Steve Jobs and the Google guys, Sergey Brin and Larry Page. But Mark Zuckerberg’s star rose much faster than any of his predecessors. Just two weeks after Facebook launched, the firm had four thousand users. Ten months later it was up to one million. The growth continued, and the business world took notice. In 2006, Viacom (parent of MTV) saw that its core demographic was spending a ton of time on Facebook and offered to buy the firm for three quarters of a billion dollars. Zuckerberg passed.S. Rosenbush, “Facebook’s on the Block,” BusinessWeek, March 28, 2006. Yahoo! offered up a cool billion (twice). Zuck passed again, both times.

As growth skyrocketed, Facebook built on its stranglehold of the college market, opening up first to high schoolers, then to everyone. Web hipsters started selling shirts emblazoned with “I Facebooked your Mom!” Even Microsoft wanted some of Facebook’s magic. In 2006, the firm temporarily locked up the right to broker all banner ad sales that run on the U.S. version of Facebook, guaranteeing Zuckerberg’s firm $100 million a year through 2011. In 2007, Microsoft came back, buying 1.6 percent of the firm for $240 million.While Microsoft had cut deals to run banner ads worldwide, Facebook dropped banner ads for poor performance in early 2010; see C. McCarthy, “More Social, Please: Facebook Nixes Banner Ads,” CNET, February 5, 2010. The investment was a shocker. A firm that at the time had only five hundred employees, $150 million in revenues, and was helmed by a twenty-three-year-old college dropout in his first “real job” was valued at $15 billion—making it more valuable than General Motors. It wasn’t a bad bet on Microsoft’s part—the investment increased in value nearly sevenfold in five years.

Rupert Murdoch, whose News Corporation owned rival MySpace, once referred to Facebook as “the flavor of the month.”B. Morrissey, “Murdoch: Facebook Is ‘Flavor of the Month,’” Media Week, June 20, 2008. But Murdoch, the media titan who stood atop an empire that includes the Wall Street Journal and Fox, was utterly schooled by “the kid.” Six years after acquiring MySpace for $580 million, Newscorp sold the firm for $35 million, less than one sixteenth of the purchase price.C. Hoffman, “The Battle for Facebook,” Rolling Stone, June 26, 2008. Zuckerberg went on to be named Time’s “Person of the Year,” while a (mostly fictionalized) account of Facebook’s foundingL. Grossman, “Person of the Year: Mark Zuckerberg,” Time, December 15, 2010. was a box-office smash, nominated for a Best Picture Academy Award. The firm’s controversial 2012 public offering valued the firm at over $100 billion, and the $16 billion raised in the offering made it the biggest tech IPO in history and the third biggest IPO ever.J. Pepitone, “Facebook Trading Sets Record IPO Volume,” Fortune, May 18, 2012.

Zuckerberg Rules!

Many entrepreneurs accept start-up capital from venture capitalists (VCs), investor groups that provide funding in exchange for a stake in the firm and often (especially in early-stage investments), a degree of managerial control (this may be in the form of a voting seat or seats on the firm’s board of directors). Typically, the earlier a firm accepts VC money, the more control these investors can exert (earlier investments are riskier, so VCs can demand more favorable terms). VCs usually have deep entrepreneurial experience and a wealth of contacts, and can often offer important guidance and advice, but strong investor groups can oust a firm’s founder and other executives if they’re dissatisfied with the firm’s performance.

At Facebook, however, the firm’s extraordinary growth left potential investors salivating to back a firm perceived as being less risky but carrying the potential of a huge upside. Early backers ceded control—at a time when Facebook’s board had only five directors, Zuckerberg appointed three of them. When Facebook filed to go public, Zuckerberg’s ownership stake stood at twenty-eight percent, but Facebook created two classes of shares, ensuring that Zuckerberg maintains a majority of voting rights in the public company and virtually guaranteeing that his control of the firm continues, regardless of what investors say. Maintaining this kind of control is unusual (although not unprecedented—Google’s founders have a similar ownership and voting structure).S. Denning, “Is Google’s Share-Split Evil?” Forbes, April 13, 2012. Zuckerberg’s influence is a testament to the speed with which Facebook expanded. When investors’ demand to get in on ‘the next big thing’ remains high, a firm’s owner can extract extraordinary terms for the privilege of coming along for the ride. As Slate puts it, Facebook is “conducting an experiment in corporate dictatorship nearly without precedent for such a large and high-profile company.” All hail Emperor Zuckerberg!M. Yglesias, “All Hail, Emperor Zuckerberg,” Slate, Feb. 3, 2012.

Why Study Facebook?

Looking at the “flavor of the month” and trying to distinguish the reality from the hype is a critical managerial skill. In Facebook’s case, there are a lot of folks with a vested interest in figuring out where the firm is headed. If you want to work there, are you signing on to a firm where your stock options and 401k contributions are going to be worth something or worthless? If you’re an investor, should you shortShort selling is an attempt to profit from a falling stock price. Short sellers sell shares they don’t own with an obligation of later repayment. They do so in the hope that the price of sold shares will fall. They then repay share debt with shares purchased at a lower price and pocket the difference (spread) between initial share price and repayment price. the firm or increase your holdings? Would you invest in or avoid firms that rely on Facebook’s business? Should your firm rush to partner with the firm? Would you extend the firm credit? Offer it better terms to secure its growing business, or worse terms because you think it’s a risky bet? Is this firm the next Google (underestimated at first, and now wildly profitable and influential), the next GeoCities (Yahoo! paid $3 billion for it—no one goes to the site today), or the next Skype (deeply impactful with over half a billion accounts worldwide, but so far, not much of a profit generator)? The jury is still out on all this, but let’s look at the fundamentals with an eye to applying what we’ve learned. No one has a crystal ball, but we do have some key concepts that can guide our analysis. There are a lot of broadly applicable managerial lessons that can be gleaned by examining Facebook’s successes and missteps. Studying the firm provides a context for examining nework effects, platforms, partnerships, issues in the rollout of new technologies, privacy, ad models, the business value of social media, and more.

Facebook’s Copilot

Don’t let Zuck get all the credit. While Facebook’s founder is considered the firm’s visionary, chief operating officer Sheryl Sandberg is often depicted as the person who runs the place: the coach, the seasoned mentor, the drill sergeant, and the lead “adult” in a workforce that skews remarkably young despite its vast, global influence.

Regularly named to Fortune magazine’s “Most Powerful Women in Business” list, Sandberg came to Facebook from Google (before that she was chief of staff to U.S. Treasury secretary Larry Summers). In just three years, she’s helped steer Facebook to almost unimaginable heights. Users increased tenfold, she’s helped devise an advertising platform that has attracted the world’s largest brands, she’s developed a sales organization that can serve a customer base ranging from the Fortune 100 to mom-and-pop stores, and she’s helped the firm through several crises, all while turning a profit and pushing revenue higher.

Sandberg, a Harvard grad, left the school with a geeky legacy akin to Zuckerberg’s. When she was a student conducting economics research she ran so much data on Harvard’s network that she choked the system. Zuckerberg would have much the same impact more than a decade later.B. Stone, “Why Facebook Needs Sheryl Sandberg,” BusinessWeek, May 16, 2011.

Sheryl Sandberg is a powerful speaker and a leading advocate for increasing the ranks of women in senior management.

Key Takeaways

  • Facebook was founded by a nineteen-year-old college sophomore and eventual dropout.
  • It is currently the largest social network in the world, boasting more than nine hundred million members and usage rates that would be the envy of most media companies.
  • The firm’s rapid growth and high user engagement allowed Facebook’s founder to demand and receive an exceptionally high degree of control over the firm—even as the firm went public.

Questions and Exercises

  1. Who started Facebook? How old was he then? Now? How much control does the founding CEO have over his firm? Why?
  2. Which firms have tried to acquire Facebook? Why? What were their motivations and why did Facebook seem attractive? Do you think these bids are justified? Do you think the firm should have accepted any of the buyout offers? Why or why not?
  3. Firms’ values fluctuate over time. How much is Facebook “worth” today? Has the firm’s value gone up or down since its IPO? Why? Was investing in Facebook at IPO a move that paid off or that has resulted in losses?
  4. Why was Zuckerberg able to demand and receive control of Facebook, even as the firm went public? What strategic factors were at work in Facebook’s rise that gave the founder such leverage?
  5. Why study Facebook? Who cares if it succeeds?