The Reason why Facebook is overvalued

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Is Facebook overvalued? That’s a question bothering a lot of people as they try to work out whether to invest in the stock or not, whether social networking is a fad, and what the next disruptive technology is going to be.

To answer the question (and the title of the post gives away what I think), I want to take you away from technology, and back to the oldest of media technologies: the dead-tree book.

The properties of a book

I love books. Reading them. Writing them. Owning them.

For a long time (until about ten years ago), we had no trouble understanding what a book was. It was a collection of paper pages, bound together, containing a collection of ideas. They could be literary novels, reference books or children’s story books. It didn’t matter.  We knew what they were.

Then along came the Internet, and technology, and it turned out we had been wrong for half a millennium. A book is two completely distinct things:

• A book is an access device that allows us to read words or look at pictures
• A book is the collection of ideas those words and pictures express

Until the turn of the millennium, it didn’t matter that we didn’t see the distinction. Since there was no way to get hold of the collection of ideas without getting hold of the access device, the separation was a matter only of interest to philosophers and the most pedantic of pedants.

No longer. We can now download a book onto our mobile phone, Kindle, tablet or computer. We can get hold of the collection of ideas (legally or illegally) at almost no additional cost. The book (and the CD/album, DVD/movie, Blu-Ray/video game) has been torn in two. The access device no longer has to be inseparable from the collection of ideas.

(As an aside, this is the heart of the disruption facing the entire media industry: it is a business constructed to sell single purpose access devices such as books and CDs. That is not what consumers wish to buy any more, but publishers are struggling to become sellers of collections of ideas.)

Now Facebook is being disrupted

When Facebook was getting stratospherically-high valuations, analysts and investors pointed at the social graph as being the primary component of value. Facebook has 900 million users and hosts the web of relationships that connects them. However you look at it, that is an enormously valuable asset.

However, in the same way that we didn’t see the distinction between the access device and the collection of ideas, investors didn’t see the distinction between Facebook’s value as a social graph and Facebook’s value as a platform.

• The social graph is Facebook’s moat. The web of connections that we have all built over the past five years will be difficult to replicate and provides a way to connect people, products, services and companies that is insanely valuable.
• The platform is Facebook’s monetisation tool. It is the way it converts the social graph into cold hard cash.

Until recently (and possibly still) most investors thought that the social graph and the platform were inseparable. In the same way that we thought the book was a book.

A glance at the screengrab below shows how wrong those investors are.

That’s my iPhone. Mobile is becoming the dominant platform. Facebook’s app is one of 20 icons on this screen of my iPhone, and I have several more screens. For a business whose financial success depends on it being a platform to monetize its social graph, that screen is a problem. Apple is a problem. Mobile is a problem. My preference for leaving FB to go to a different app to play games, to read books, to interact with friends, is a problem.

A problem they are going to have to solve.

Is it a permanent value shift?

I believe that there has been a permanent shift in the value of the book as we disassociate the access device from the collection of ideas.

I believe that Facebook is in imminent danger of the same separation happening to its business. It retains the value of the social graph, but loses the value of owning the platform. The company knows this – hence its $1 billion acquisition of Instagram – but that doesn’t stop it being a very real problem.

Facebook is going to be around for a long time, and it still has value. Unless it can solve this platform problem, though, it’s going to be a lot less valuable than people thought it was going to be.

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