Facebook woes have recently been front page news. The data breach saga has been narrated ad nauseam so we won’t bore you with the details but we will discuss some investment merits of dominant internet stocks and other general thoughts. Many may disagree with how Facebook has dealt with the issue and its response to date and others may worry about their privacy but there are a number of nuances to consider.
1. If you jump ship where do you go?
Assuming you still want to connect to friends and family and delete Facebook where do you go? I don’t see consumers disengaging dramatically. Facebook owns four dominate social media platforms expected to be over 1 billion users each. If one leaves Facebook to focus on Instagram you are still in the Facebook franchise.
The power of the networking effect should never be dismissed. Google, Alibaba, Facebook, Tencent all get stronger and more dominant as they grow. When their network reach expands they become more valuable and as they become more valuable their networks continue to expand.
This is perpetual motion machine in so many ways that leads to increased dominance that makes competing platforms less valuable at the same time. This doesn’t, of course, mean that no new competition will ever develop and it certainly doesn’t guarantee future dominance but it does provide a very defensible business position.
2. Will regulation follow?
This is highly likely. Additional costs to comply and secure information and monitor content are almost assuredly necessary which is likely to result in some margin pressure. But this ironically can also help the likes of Facebook and Google. Regulation does offer benefits … if you are a big company.
Big companies won’t really come out and say this but they actually gain advantage with heavy and complex industry regulation in some ways. Create some oppressive and complex regulation that costs millions to comply with and I can assure you the result will be less competition.
It can become increasingly difficult for a small start-up to compete with a huge company if the regulations costs involved to set-up, monitor and comply with rules are excessive. Thus the bigger incumbents can actually gain increasing dominance from regulation. It increases their moat and defence against disruption because smaller competitors now become distracted and encumbered by another layer of complexity to deal with — time and money is now being spent on costs that do nothing to grow their own revenues or scale.
3. Will advertisers abandon the platform?
It so far doesn’t appear so. If one where to build a very tailored and specific advertising network that is granular in its ability to tailor ads one would likely build something exactly like Facebook. The business itself, like many large tech companies, is extremely valuable to users. If you want to decide if something is super valuable, ask yourself if you were to notice if it went away or disappeared. Would it have a noticeable negative effect on what you do or how you do things?
Big tech has almost become ingrained in almost everything we do. Many have products that they have only begun to monetise. The addressable market for many big tech companies still seems huge in terms of potential product growth and geographical reach.
The power and the dominance of companies like Google, Facebook and Amazon make them quasi monopolies. History has shown that in order to recreate an environment like this you first need to break it. Therefore the bigger risk is that they are somehow targeted under a form of antitrust.
But antitrust regulation usually revolves around companies doing harm to consumers due to price setting. This is far from the case involved in large tech today where their products are actually free or dramatically lower the cost of goods and services and even increase convenience.
One aspect that seems to have been slightly glossed over in this fiasco is the discussion on censorship. That is exactly where it appears we are moving towards in the realm of social networking or production platforms.
We all would prefer to not be spoon-fed fake news, altered facts and blatant lies but we also need to acknowledge the slippery slope we are now on in terms of free speech. Whenever one person or one group of people of a certain platform curates and decides the legitimacy or appropriateness of certain content we are subject to their interpretation or assessment of the news and/or content.
Not to mention their programming biases inherent in any form of artificial intelligence screening. Is their view the right view? Are you comfortable knowing that what you are seeing or allowed to see is the true reflection of reality? Freedom of speech needs to be paramount.
Although there is a lot of absolute junk and false information that perpetuates the internet, in my opinion the far bigger crime to be worried about is the creeping reach of subjective censorship.
We are likely at a watershed moment in regards to the opinion on big tech. Sentiment appears to be shifting from pure indifference towards one of increasing scepticism. The trajectory of returns will vary somewhat depending on the ultimate outcome in terms of regulation and the level of consumer engagement.
At this point, however, we have seen little material long-term change in the ability for select companies to continue to dominate their respective markets and deliver shareholder value over time.
Full disclosure: The author owns positions in Facebook, Google, Alibaba and Tencent (through Naspers).
• Nathan Kowalski CPA, CA, CFA, CIM is the chief financial officer of Anchor Investment Management Ltd and can be contacted at email@example.com
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