The Facebook Effect

by David Kirkpatrick

  Colleran found one company willing to pay big bucks for ads. It was his first big deal. British online gaming company Party Poker didn’t buy its ads on a CPM basis, but rather on what’s called CPA—cost per acquisition. Party Poker paid a flat fee of $300 for each new subscriber who signed up for its service and put at least $50 into a gambling account. This proved to be hugely lucrative for Thefacebook—it was soon reaping $60,000 each month just for the 200 new members, on average, who signed up. Salespeople at Y2M, which was also still selling ads for Thefacebook, were astonished. They had never before seen a college advertiser spend so much on the Internet. A year or so later, though, online gambling was outlawed in the United States and Thefacebook dropped Party Poker.

  Those interested in banner ads on a CPM basis included some companies that targeted college students as employees—like house-painting operations and door-to-door retailers that hired students for summer work. One big client sold kitchen knives. Businesses that provided products sold by fraternities and sororities for fund-raisers also saw a good response on the site. Ads started at $5 per thousand views and advertisers had to spend a minimum of $5,000 per month.

  But aside from the lucrative Party Poker deal, the main revenue was still coming from sponsored groups, especially Apple’s. Since Apple paid $1 per month per member, as the Apple group grew Thefacebook made more and more. Soon it was generating hundreds of thousands of dollars per month. That was the single biggest source of revenue the company had in 2005. Other companies that sponsored groups, which required a minimum monthly payment of $25,000, included Victoria’s Secret.

  But there were also early signs that this new kind of social network offered uniquely powerful tools for advertisers. In 2005, Interscope Records released a single by Gwen Stefani called “Hollaback Girl.” The song takes the form of a sort of cheerleading chant, and Interscope’s marketers got the idea of promoting it explicitly to college cheerleaders, hoping they would adopt it for their routines at games. Where better to find college cheerleaders than at a college-only website? Dustin Moskovitz had become good at mining profile data on Thefacebook for advertisers, so it was little trouble for him to target cheerleaders.

  This approach might seem obvious, but few sites on the Internet before this could offer targeting based on information that had been explicitly provided by users. Interscope could have instead hired a firm that targets users on other sites based on inferential analysis of Internet behavior. Such ad networks watch what people do using tiny pieces of software called “cookies,” which are installed in consumers’ Web browsers. They can know, for example, you have been to the kinds of sites a twenty-year-old girl might go to, or that you have shopped for pop music online. If you did both, they might place ads on pages you visit. Such an approach infers who you are and what you’re interested in by supposedly savvy guesswork.

  While such targeting has been considered acceptably accurate, it’s a shotgun approach. Many such ads are seen by people who aren’t the real targets. Even gender targeting is often inferred incorrectly online. One longtime Internet ad executive estimates gender targeting errors at 35 percent. If you are sharing your boyfriend’s laptop, for example, this approach won’t work very well. Another way an advertiser like Interscope could achieve tight demographic targeting would be to find a site just for college cheerleaders, if one existed, and run its ad there. But it wasn’t likely to get large numbers that way.

  On Thefacebook, by contrast, Interscope could be given a guarantee—its ad would only be seen by college girls who are either cheerleaders or who have mentioned something about cheerleading in their profiles. The company told Interscope exactly how many times it displayed the ad on pages seen by such girls. “Hollaback Girl” did become a popular cheerleading anthem at football games that fall. It’s impossible to prove the ads on Thefacebook were determinative, but it’s a fair bet that just about every cheerleader at the schools where Thefacebook operated saw them.

  Targeting of this type is enormously promising. A media kit used by Colleran right after he started lists the following parameters an advertiser could use for targeting college students: geography, gender, course, keywords in profile, class year, major, relationship status, favorite books, movies or music, political affiliation, and university status (student, faculty, alumni, or staff). The house-painting and knife-peddling advertisers could show their ads only to male students at colleges in regions where they wanted to increase their workforce. Or they could aim more tightly—at freshman males on the football team who had gone to high school in northern Ohio.

  Inside the company it was starting to sink in on these young pioneers that they had a unique database about people that could be tapped for many purposes. The combination of real validated identity information and extensive information about individuals could yield insights no Internet service previously had seen. A math whiz friend of D’Angelo and Zuckerberg from Exeter spent the summer writing algorithms to find patterns in Thefacebook’s data. He was able to create lists of user favorites. Movies were the top interest of the service’s 3 million users. Their five favorites were Napoleon Dynamite, The Notebook, Old School, Fight Club, and Garden State. Favorite book: The Da Vinci Code. Favorite musician: Dave Matthews. Soon the service began offering something called Pulse. It tracked which books, movies, and music were most popular on Thefacebook as a whole and on a given college campus.

  For all the promise Thefacebook’s unique data held for advertisers, most of the ads that were selling on the site at that point were generic banner ads. Facebook had contracted with several ad networks, which were posting ads willy-nilly. None of it was generating very much revenue. The company was steadily burning through the money it had raised from Accel. By year-end, it had $5.7 million left from the $12.7 million it had raised. Thefacebook had not yet become a real business.

  These highly intellectual dropouts would spend endless hours debating what Thefacebook was really doing. After all, there had never been a website quite like this before. They took a serious, almost grave view of the significance of what they were building. Zuckerberg referred to it as a directory of people. That was, he said, what he had originally set out to build. Parker put it more imaginatively. He said Thefacebook was like a little device you carried around and pointed at people so it would tell you all about them. Cohler’s analogy was that it was like your cell phone—a gateway to the people in your life. Even back then they often heard the criticism that Thefacebook was a waste of time. Zuckerberg’s standard rebuttal: “Understanding people is not a waste of time.” He started saying that the goal of Thefacebook was “to help people understand the world around them.”

  They loved to talk about how Thefacebook showed what economists call “network effects.” And it did, just as have many of the great communications and software innovations of the last hundred years. A product or service is said to have a network effect when its value grows greater to all users each time one new user joins. Since every incremental user thus in effect strengthens the service, growth tends to lead to more growth, in a virtuous cycle. That was surely the case with Thefacebook, just as it was with instant messaging, AOL, the Internet itself, and even the telephone. Businesses or technologies with network effects tend to grow steadily and to have a durable market presence.

  While they wanted working at Thefacebook to be seen as cool—that helped in recruiting—the product was another matter. Friendster had lived by its coolness and was now dying. Thefacebook, Zuckerberg began declaring, was “a utility.” No term could sound more boring, though he was really thinking in grandiose terms. He meant it as a way of claiming Thefacebook’s affinity with the telephone network and other communications infrastructure of the past. “We wanted to build a new communications medium,” says Parker. “We knew we’d be successful when we were no longer cool—when we were such an integral part of peoples’ lives that they took us for granted.” Dustin Moskovitz adds that it was important for the company to escape the associations that c
ame with its campus roots. “It was always very important for our brand to get away from the image of frivolity it had, especially in Silicon Valley,” he says. He had not been a big advocate of the beer-pong tournament.

  Sleekness and efficiency were the image they sought, rather than frivolity. Though Thefacebook’s white and barren functional look stood in stark contrast to the florid excess of MySpace, its design was still awkward and inefficient, reflecting the additive way it had evolved since its dorm-room days. Aaron Sittig, the graphic designer and programmer who was Parker’s close friend, had now joined Thefacebook full-time. “On my first day I came in and asked Mark, ‘What do you want me to do?’” Sittig remembers. “And he’s like ‘You’re a designer. So redesign the site.’” It came to be called the Facelift project. Sittig spent the summer working closely with Zuckerberg to disentangle software code and simplify how everything worked. The simplicity that later came to characterize the site was deliberate. “We wanted to get the site out of the way and not have a particular attitude,” says Sittig. “We didn’t want people to have a relationship with Facebook so much as to find and interact with each other.”

  Another major project in the summer of 2005 was acquiring the Internet address Facebook.com so the service could change its name. Parker, especially, was offended by the awkward inclusion of the article the in Thefacebook. He spent weeks negotiating with a company called AboutFace, which used the Facebook.com address to market software that companies used to create employee directories. AboutFace was willing to sell, but didn’t want Thefacebook stock as payment. Parker ended up paying $200,000 in cash. He also oversaw a redesign of the logo, removing the brackets that had surrounded “thefacebook” and streamlining the typeface for the new company name: Facebook. The partly pixelated head of Al Pacino in the upper left corner of the screen remained, cleaned up a little and shrunk. The company officially became Facebook on September 20, 2005.

  But despite Parker’s successes, every day it became clearer to Zuckerberg and others that he was not the right guy to be helping manage the company. Zuckerberg started to think he should run the company. Parker himself doesn’t deny he was unreliable. “I’m always gearing up for a really big push and achieving a lot and then kind of disappearing,” he admits, “which is not a good trait if you want to be operationally involved in a company day to day.” Parker was disappearing periodically. And employees noticed his erratic moods.

  Rebranding Facebook would turn out to be Parker’s last important act as company president. In the last week of August he was on a kiteboarding vacation in North Carolina, where he had rented a house right by the beach with several friends, including a young woman who was his assistant at the company. That she wasn’t yet twenty-one would figure in Parker’s later difficulties. One night midway through their vacation week, they threw a party and invited the kiteboarding instructors, who in turn invited a bunch of their local friends. The party got so big that people began dropping in off the beach. Then two nights later, the final night, they hosted another, smaller gathering with the instructors. The group was drinking beer when a horde of police burst in with drug-sniffing dogs and a search warrant naming “Scott Palmer.” They said they had a report that the house contained a large amount of cocaine, ecstasy, and marijuana. They searched everywhere.

  Parker and his friends repeatedly insisted that the police were mistaken and that there were no drugs. But finally, after about an hour, a policeman triumphantly returned brandishing a plastic bag containing white powder. Parker, who had signed the rental agreement for the house, was taken to the police station. When he got there he learned there had been reports of drug use following the party two nights earlier. After a lengthy back-and-forth over whether there was even enough evidence to book him, Parker was arrested for felony possession of cocaine. He was not formally charged with a crime. That would require an indictment. He was released immediately.

  Parker flew home to California, shaken but adamantly insisting he had done nothing wrong. He told Zuckerberg, company counsel Steve Venuto, as well as executives Dustin Moskovitz and Matt Cohler. They decided it didn’t call for any action by the company. Then Zuckerberg told Jim Breyer about the incident. That did not portend well for Sean Parker.

  Breyer, Accel’s board member at Facebook, took the arrest very seriously. He was worried not only that the company’s president and board member was being accused of drug possession, but also that he had been with an underage company employee at the time. Breyer knew about the allegations about drug use and misbehavior at Plaxo, because he had talked to Mike Moritz and other investors in that company about Parker before investing in Facebook.

  The fact that Parker had never developed a good relationship with Accel and Breyer made it hard for him to resolve the matter quietly. A complicated and tense negotiation ensued.

  Zuckerberg was not convinced Parker had done anything wrong. No official charges had been brought, after all. (They never would be.) And Zuckerberg felt real loyalty to his friend. The CEO was deeply grateful to Parker for having done such a good job negotiating with Accel, and for ensuring he had control of the company.

  But Breyer thought Parker was a liability for the company well beyond his actions in North Carolina, whatever they might have been. Though he had tremendous respect for Parker’s intelligence, he saw him as bringing a volatile edge to the company’s culture. Breyer was also fully aware of Parker’s aversion to venture capitalists like himself.

  Others in the company’s leadership felt uncomfortably stuck in the middle of an intractable dispute. Even some of Parker’s friends felt that, regardless of the merits of this particular accusation, he should not remain Facebook’s long-term president. For them, this incident was merely the straw that broke the camel’s back. So while some of these younger employees supported Parker in his specific contention that he had done nothing wrong, they weren’t eager to retain the status quo. Among other things, his compatriots worried about Parker’s desire to remain the public face of Facebook. It felt risky for the company to have that same person leading what was beginning to seem like a reckless personal life.

  A whirlwind of accusations and arguments swept the company up into a genuine crisis. Breyer insisted Parker had to leave the company. The pressure on Zuckerberg was intense. Meanwhile, Jeff Rothschild, who had been brought in as a seasoned technologist by Accel but had by now bonded with the team of young entrepreneurs, worked hard to serve as a mediator. He spent hours talking with Parker and Zuckerberg as they sought a resolution, as did company counsel Venuto (a longtime associate whom Parker had hired).

  All this took place over only a couple of days. Breyer demanded Parker step down and was talking about filing a lawsuit because as a board member he hadn’t been informed earlier. Parker’s friend and board member Peter Thiel was also encouraging him to quit. Parker and Zuckerberg sat in the dorm room and had an emotional conversation, which ended with Parker agreeing to step down.

  But this third time he was being ejected from a company he had helped create, Parker had finally succeeded in building in some insurance for himself. Under the terms he had carefully crafted to protect himself and Zuckerberg, he had no obligation either to relinquish his board seat or to give up his stock options, even if he was no longer an executive. But Breyer insisted that he not only leave the board but also stop vesting, or acquiring final ownership, of his stock, since he had only been at the company about a year. (Vesting is generally tied to tenure—the longer you remain with the company the more stock becomes yours.) The company advanced Parker’s vesting by a year, and he agreed to relinquish about half his options. (Had he retained the options he gave up, they would be worth around $500 million today.)

  But Parker had the right to assign his board seat, which he was also voluntarily relinquishing, to someone else. He had reservations about giving it to Zuckerberg, because with the control of a third seat Zuckerberg would have unchallengeable authority over the company’s destiny. However, Parker wor
ried that any other choice would risk allowing the company to fall under the control of outside investors. His assumption that, if investors had the power, they would eventually seek to oust Zuckerberg gave him, he felt, no choice.

  Parker and Zuckerberg agreed the seat should revert to the CEO, giving Zuckerberg control of two seats on the five-person board in addition to the one he occupied himself. For the time being these two seats remained unoccupied. But in the event of any serious disagreement with Breyer and Thiel, Zuckerberg had the ability immediately to appoint two new directors on the condition they vote as he instructed. “That solidified Mark’s position as the sort of hereditary king of Facebook,” says Parker. “I refer to Facebook as a family business. Mark and his heirs will control Facebook in perpetuity.” Zuckerberg continues to this day periodically to consult his former colleague.

  7

  Fall 2005

  “He was formulating a broader and broader theory about what Facebook really was.”

  As the school year resumed in the fall of 2005, the company now named Facebook had effectively blanketed the college market—85 percent of American college students were users and a full 60 percent returned to it daily. Now Zuckerberg wanted to broaden membership into new demographics. But many in the company wondered whether it made sense. “The debate was ‘What’s next?’” says board member Jim Breyer. “Do we go international? Do we go young adult and keep the people who are graduating? But we knew that if we were going to win big, we had to start getting the hearts and minds of high schoolers.”