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Justin Hohn
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I am a mechanical engineer specializing in advanced clean diesel technology and diesel engines.
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  • AAPL IOS8 Security And Privacy Extend Competitive Advantage

    AAPL is on a roll. After successfully launching its latest iPhones and mobile OS, Apple selected the perfect time to highlight security and privacy.

    Admittedly, there is a defensive aspect to all this in light of the recent iCloud compromise of some celebrities who apparently don't know how easy some simple passwords are hacked. Though this was no fault of Apple's, they were criticized for this breach.

    That incident continues to fade as security takes center stage with the launch of Apple Pay.

    Which makes now the perfect time to highlight to superior privacy and security features of iOS 8. It's difficult to read Apple's page on privacy without some striking observations.

    First, this is a real competitive advantage relative to Android. Even if such security features existed in an Android format, the fragment nature of that OS would prevent wide adoption. Android users are at the mercy of their carriers and their hardware.

    Secondly, this could be viewed as a less-than-subtle stab at FB and GOOG. Apple takes pains to highlight how its business does not depend on datamining its users because it sells no advertising.

    What if Facebook and Google adopted similar policies with regard to datamining their users? What happens to the value of their advertising business model if the data used to target those ads is no longer captured?

    Then there's the enterprise aspect to all this. BBRY has been clinging to life primarily on enterprise security and device management. If Apple has taken away the security advantage and (with the recent partnership with IBM) is positioning itself to move big into device management, then what does BBRY have left?

    Apple is starting to look a little like AOL in the late 1990s in that just when the consensus was that the company had grown as big as it possibly could, it went on another explosive growth run that saw many investors who sold too early forfeiting several hundred percent additional growth.

    It's looking quite possible now that Apple may achieve--and justify-- another $200b of market cap. Staggering.

    Tags: AAPL, GOOG, BBRY, FB
    Sep 18 9:13 AM | Link | 3 Comments
  • Facebook's Ad Hoc Business Model Is Unsustainable

    FB is making news again, this time with the recent announcement that it will acquire WhatsApp, the developer of the eponymous messaging app. I believe that this acquisition should further convince astute observers that Facebook's business model is a mess, and only speculators hoping for a bigger sucker can justify purchasing the stock.

    I begin with value creation, a theme to which I return frequently. How does Facebook create value? The chattering-analyst class will talk about ad revenue, page hosting, selling promotions, etc. These are secondary value streams, though. In the end, there is only ONE source of value creation for Facebook--the user base. Period. Provide them value and they provide you value in return.

    Much of the perceived value of Facebook comes from the fact that it has by some counts as many as 1.1 billion monthly active users. How well does Facebook turn that user base into profit? Facebook's most recent quarter shows a net profit of $523 million dollars. Consider that ratio for a moment: Facebook converts three months(!) worth of user activity into less than 50 cents per user-- just over 15 cents per user per month. Since many users spend over an hour per day on the site, the profit-per-hour of user interaction is certain to be very small indeed.

    Facebook has a profit generating problem. This, too is a secondary issue, though. Its bigger problem is one that is inherent in social networks in general. That problem is that they scale poorly. They surpass a point of optimal utility for the user, after which point additional scale reduces the value to the user-- a sort of Laffer Curve for social networks.

    Social networks experience a lifecycle as they grow in scale. At first, we interact with a small number of people-- family and close friends. These interactions are very valuable to us because the people are very valuable to us. As more users join, we find old acquaintances from previous jobs or schools. Each additional "friend" we add is a reduction in marginal utility because we've already added the most important friends--those people whose interaction we value most highly. If we continue adding "friends" in a social network, we eventually end up with so many interactions that the low-value interactions diminish the value of the high-value interactions. This is why Facebook attempts to add sub-groups and sophisticated algorithms to help filter out the interactions you would normally filter on your own. It's fighting the tendency of its business model. It's like constantly taking a prescription medicine to combat faulty DNA. Facebook's business model has a DNA problem, and they are always testing new medicines in search of a cure.

    While the personal value of facebook diminishes with scale, the commercial value does not--at least not at first. At some point of size, a group ceases to be a circle of interaction and then becomes a "market." When a school's alumni group is a handful of people looking to reconnect, it's a social interaction. Eventually, though, it will become a primary means for soliciting donations from those same alumni. You can't blame the school, can you? Someone has already assembled the largest concentration of alumni in one place for you. Why would you not take advantage of the marketer's dream come true?

    Those who joined that alumni group, though, didn't join to be solicited for donations. They wanted to interact with each other- not necessarily with the school.

    Consider the wisdom of Seth Godin:

    Permission marketing is the privilege (not the right) of delivering anticipated, personal and relevant messages to people who actually want to get them.

    It recognizes the new power of the best consumers to ignore marketing. It realizes that treating people with respect is the best way to earn their attention.

    Facebook tramples this approach with impunity. Ever see a "suggested post" show up in your news feed? This is Facebook's ham-fisted attempt at marketing: rudely interrupt the user's preferred newsfeed to ask them if they wish to participate in marketing a product they probably don't know about on behalf of a business that hasn't earned their loyalty. This, because someone paid for the right to market to you without your permission. Facebook doesn't share how many people actually take them up on their offer of making a "suggested post," but I can assure you that if they did, the numbers would be bogus.

    That's because Facebook has another major problem besides turning the user experience into marketing pandemonium that makes a Persian Bizarre look like day spa. That problem is outright fraud.

    This video from YouTube channel Veritasium shows just how Facebook "likes" are overwhelmingly manipulated and fraudulent. Facebook's direct revenue-generating features (selling "promoted posts" and such) are completely bogus. As the video illustrates, they not only fail to provide value to the user who bought them, but they actually reduce the value to the user--cost plus negative benefit.

    These severe problems existed with Facebook's business long before it acquired WhatsApp. Most of them existed before Facebook even bought Instagram. Now that I've shared why I feel the core business model at Facebook is poor, let's consider how acquisitions are to be understood.

    The WhatsApp purchase--like the Instagram purchase-- seems to make very little sense in terms of adding value to the Facebook enterprise. Before it bought Instagram, Facebook already had billions of user photos on its servers. People knew how to share photos via Facebook. Similarly, the WhatsApp messaging service duplicates much of the existing Facebook messaging function.

    Not only is WhatsApp not a huge value add for Facebook, it is a cultural misfit. Consider the WhatsApp blog posting about why they don't believe in ad selling.

    Facebook buys a messaging service that doesn't believe in selling ads to join their business, which already has a messaging function and thinks advertising will be its primary source of revenue. How is this a good idea?

    The impression I get is that Mark Zuckerberg and the Facebook leadership team have a few main themes in their minds:

    • "We've got to do better in mobile because all the analysts say we have to do better in mobile. Who can we buy that's getting big in mobile?"
    • "Oh no! Another rival social network! Do you think double or triple their present value is a high enough multiple to eliminate them as a threat? Write the check"
    • Users! We must...get...more...users....

    As Facebook pays a hefty premium for mobile-based services that duplicate many of their own core functions, I think the correct interpretation is that these are defensive acquisitions rooted in the misperception that a large enough user base is an effective moat that will generate enough money to allow you to keep buying up rivals.

    This isn't the case, though. Getting a new social network off the ground is actually rather easy these days. A well-made app can hit the AppStore or Google Play and get hundreds of thousands of users with very little difficulty. The same geometric expansion rate that enabled Facebook to grow so rapidly would also allow a rival to grow--but even faster as we are now even more interconnected.

    The user can jump ship with the greatest of ease. Most apps can port "friends" or contacts over with little difficulty. The loyalty to a platform like Facebook is pretty low. Users freely float between Facebook and Twitter and Pinterest and Instagram and Vines, etc.

    Consider Facebook briefly from the perspective of Porter's Five Forces model:

    1. Threat of new entrants is high.
    2. Threat of substitutes is very high.
    3. Customers have high bargaining power (lots of substitutes)
    4. Suppliers have high bargaining power
    5. Competitive Rivalry is intense.

    The future of social networking is larger numbers of smaller networks, and progress is leaving Facebook in the dust. More Vine, Snapchat and similar apps are likely to show up and further erode the appeal of Facebook. They'll connect with Facebook, of course. But Facebook will become the dumping ground for already-consumed content. It will be the place to find that meme that went viral months ago, or that funny cat clip you've already seen four times elsewhere.

    Worse than a quick descent into oblivion or a rapid bankruptcy, Facebook will suffer a stagnant irrelevance. It will remain large for awhile, and if it goes away, it will go very slowly away. MySpace is still around, after all. But MySpace today isn't MySpace of the "next big thing" anymore, and neither is Facebook.

    Unless, of course, you are a Wall Street analyst, in which case, Facebook as bright future and commands a lofty valuation based on inappropriate assumptions about future cash flows.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

    Tags: FB
    Feb 20 3:39 PM | Link | 4 Comments
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