Finding cracks in Facebook

Be like Jeff - Venture capitalists have a history of dislodging founders, like Jerry Yang (below) in favor of 'adults' But Zuckerberg intends to lead his company though any challenges, like Jeff Bezos (top).

Mom's home! Sheryl Sandberg brings order to an afterschool culture.

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(Fortune Magazine) -- Late last year Mark Zuckerberg, the 24-year-old CEO of social-networking phenomenon Facebook, got onstage before a Madison Avenue crowd and declared that he was leading a once-in-a-century media revolution. Long story short: The revolution hasn't panned out. Six months later, advertisers could be forgiven for mistaking Facebook for a smaller MySpace or a much larger Friendster (remember them?). And far from changing media as we know it, the virtual home of Superpokes, Funwalls, and other such time wasters is showing cracks in its foundation.

User growth remains impressive. Since September 2006, when Zuckerberg opened Facebook to nonstudents, the site has grown 12-fold, making it one of the fastest-rising dot-coms in history. Visitors tripled after Facebook expanded internationally last year, and they continue to spend more time on the site: 20 billion total minutes in March 2008, vs. 6.4 billion a year prior. But the number of U.S. visitors has leveled off, fluctuating between 30 million and 35 million, according to comScore. And that's not all. Anecdotal evidence suggests that many of the adults who signed on last summer to see what the fuss was about are done with their social-networking experiment. The company also delayed its much-anticipated redesign, originally due in April, in deference to third-party developers that have complained that Facebook has become a frustrating partner. "Developing on Facebook is like playing a game where the rules are changing all the time," says Jia Shen, co-founder of widget maker RockYou. He's turning his attention increasingly to social networks like MySpace that use the OpenSocial standard promoted by Google (GOOG, Fortune 500).

Meanwhile the most controversial product Zuckerberg introduced, Beacon - the thing he was bragging about in that Madison Avenue speech - has failed. It allows friends to see one another's activities on different Web sites. Zuckerberg claims it was designed to enhance the user experience, but it's easy to see its appeal to advertisers. Imagine what happens to Blockbuster's traffic, for example, when one user finds out that her coolest friend just rented Walk Hard. But users hated the loss of privacy. Some signed a MoveOn.org petition to halt the program; one testy Texan even filed a lawsuit. Zuckerberg amended Beacon and admits that the company messed up. "We made mistakes in communicating about it," he says. "We made mistakes in the user interface. We made mistakes in responding to it after it was out there."

But Facebook's biggest concern has to be the blasé attitude that media buyers have toward the company. Microsoft (MSFT, Fortune 500) paid $240 million for 1.6% of Facebook, giving the startup an eye-popping valuation of $15 billion; according to media reports, as of early May the Redmond crew has been exploring ways to buy Facebook outright. But Microsoft's ardor obscures the fact that Facebook generated only $145 million in revenue last year, according to eMarketer, much of it from an ad deal with Microsoft. MySpace, by contrast, had $510 million in revenue. Facebook ads can sell for as little as 15 cents per 1,000 impressions (CPM) - compared with the estimated $13 on Yahoo (YHOO, Fortune 500) properties. And even at those bargain prices, marketers are reluctant to spend money on a venue where users aren't paying attention. Jeff Ratner, a managing partner at WPP's MindShare Interaction, whose clients include Motorola (MOT, Fortune 500) and Unilever (UN), spends less on Facebook than he did six months ago. "As soon as they stepped out of Beacon, Facebook doesn't look that different," Ratner says. "It just becomes another buy, and there are cheaper, more efficient ways to reach eyes."

It's not unusual for a startup to encounter choppy waters. All young companies hit a point where everyone doubts the founding vision. And in Silicon Valley, right about now the founder usually slinks into some "strategic," "advisory," or "product" role in favor of a veteran. Jerry Yang, Steve Jobs, and the Google duo all followed such trajectories.

But at Facebook that's not an option. Even with all the turbulence, Facebook's investors are in Zuckerberg's corner. And they might as well be - because they can't fire him. When starting the company in 2005, Zuckerberg took the counsel of Sean Parker, a former entrepreneur who was ousted at Napster, where he was president, and at Plaxo, where he was CEO (and later at Facebook, where he was president). Parker told Zuckerberg to control his board at all costs. Zuckerberg took heed. The Facebook board has three members: Zuckerberg, Peter Thiel of the Founders Fund, and Jim Breyer of Accel Partners. But Zuckerberg owns an estimated 20% to 30% of the company and can add two more members at will. (At press time, Marc Andreessen, the serial entrepreneur and Netscape co-founder, was in talks with Facebook to take one of those board seats, according to a source close to the situation. Facebook declined to comment.) That power should allow Zuckerberg to keep the CEO title for a long time.

To his credit, Zuckerberg knows he can't run Facebook alone. So in March he enticed Google's Sheryl Sandberg to become COO. (Soon after, Elliot Schrage, Google's savvy spinmeister, followed her to ply his trade at Facebook.) Sandberg grew Google's AdWords and AdSense profit machines. Now, as Zuckerberg focuses on the product, Sandberg, 38, will impose some corporate discipline on an undergraduate flip-flops-and-Red-Bull vibe. She'll implement performance reviews, refine the recruiting model, and spearhead an international push. Oh, and she hopes to develop a new ad scheme aimed at the billions that marketers spend on branding ads every year. "I'm hopeful that we play a significant role in pushing the envelope [with] awareness building," she says. "How we get there, I don't think we know yet."