The inevitable regulation of Facebook

How Facebook has made itself the prime target of government regulation

In 20 years, Facebook will become the subject of one of the most interesting case studies in recent business history. Currently, it is a ticking time-bomb waiting to become a target of government regulation. Whether it’s through repealing Section 230 or anti-trust, the hammer is headed for Zuckerberg’s invention. So where did Facebook go wrong?

For a long time, Facebook has failed to recognize that the very algorithm which makes its products so addicting and profitable also creates an echo chamber for its users. Any individual with radical worldviews can find a corner of like-minded individuals and pages that reaffirm the same beliefs. In simple words, it takes confirmation bias to an extreme and detaches people away from the diversity of the real world.

Politicians on both sides of the aisle saw this, and they attempted to use Facebook as a weapon against the other party. Both Democrats and Republicans continually demanded that Facebook censor or regulate the content of opposing views, and Facebook gave in due to shortsightedness of profit and fear of regulation.

The most extreme of these measures came on January 7th when Mark Zuckerberg posted that Facebook was going to indefinitely ban President Donald Trump’s account following the events on Capitol Hill. While Facebook had moderated and removed content from its platform before, this measure was a magnitude greater than anything in the past. Whether such a drastic decision was politically correct or not can be argued on either side, but it did confirm one thing: Facebook’s regulation is inevitable. Here are the reasons why:

  1. Social media has become a utility: In the modern world, social media is a necessary utility much like electricity. Consumers and governments alike will eventually come to the conclusion that it is far too dangerous to let a private company run a monopoly on such a resource without some form of government intervention or regulatory consequences. Section-230 is therefore likely to be repealed, and in the worst case, Instagram and WhatsApp will also be separated from Facebook’s umbrella.

  2. Political leaders of other countries are going to take action: Following the removal of Donald Trump’s account, every political leader from around the world recognized that they can be de-platformed at any time. Very few political leaders would be satisfied with putting the fate of their campaign and brand in the hands of a few companies in Silicon Valley.

  3. Facebook acted too late: A lot of people have speculated that Mark Zuckerberg took this action in response to the Democratic Party taking control of both the presidency and senate. By removing Donald Trump’s account, Zuckerberg may be able to make a stronger case for not regulating Facebook in front of a Democratic majority senate. However, even if this is true, it is way too late. There is already enough support for the regulation of Big Tech from the left-wing party, and the right-wing is only going to become more aggressive in their regulatory push following this action. When both sides of the aisle want to regulate you, you will eventually run into trouble.

So as an investor, what should you do?

As contrarian as it sounds, all of this is great news for long-term shareholders of Facebook. Let’s break down the two main concerns with this company:

  1. The first concern revolves around whether the government will repeal Section-230, which provides Facebook and other social media companies with immunity from third party content. If this law is repealed, internet companies can be held liable for anything users post on their platform. While repealing this will initially be a challenge for Facebook, Mark Zuckerberg has more than enough resources to hire engineers and fact-checkers to quickly remove content that would pose a liability. On the other hand, new startups who are currently trying to disrupt the social media space are not going to be able to do the same and future incentives will be taken away to build new products in this space. This is great news for Facebook because it means they can hold on to their market share for much longer.

  2. The second concern revolves around anti-trust and the breaking up of Facebook. This will result in Facebook shareholders receiving individual stocks of Instagram and Whatsapp proportional to the overall market cap of the company. This may not look very beneficial at first, but due to the conglomerate discount, Facebook stocks trades at a much lower valuation than the sum of each of its parts. That means that the total market capitalization of Facebook +Instagram +Whatsapp separately would actually be worth more than the current market cap of the combined company today. Snapchat, for example, is currently valued at a multiple of $258/user. Applying this same multiple to Instagram gives it a valuation of $257 billion just by itself. Whatsapp is also growing incredibly fast in countries such as India and the company would be worth significantly more on its own than under the umbrella of Facebook.

While the future of Facebook still remains uncertain, one thing to consider is that government regulation sometimes leads to stronger barriers to entry and more shareholder value being created. The perfect example of this in history - John D. Rockefeller’s Standard Oil.