How Facebook Can Fix Their Ads

There has been a bunch of buzz today about how Facebook advertising produces poor results. Valleywag has also confirmed that the average click through rate of Facebook ads is 0.04%. This is horrendous. A few years back I tested out a $15 flier to see how effective the ad would be and I experienced the same thing. Why is there such a horrible click through rate on Facebook? According to Luke of the Reach Students blog:

There is varied speculation as to why the clickthroughs are so shockingly poor on Facebook. Some have cited the fact the site is essentially messaging orientated — rather than content orientated – meaning that therefore users are in no frame of mind to slope off down trails.

While I can speculate about what the reason is, one thing is for sure: their ads currently suck. So how do they fix this? I have previously discussed a future of social networking in which users show off their favorite brands in turn generating brand recognition in addition to potential referrals. Additionally, Facebook could develop an ad network that provides demographic based targeting for their ads, something that not even Google currently offers. If you want to sell your new hip hop CD to guys that are 13 to 16 years old, you could login to the Facebook AD network and create a targeted advertising campaign focused on this specific demographic. You could even focus on certain states since the artist you are trying to promote will be visiting those states in the coming weeks.

This is just an example, but imagine advertising that is targeted by age, sex, location, and interests. That would create a revolution in marketing. If Facebook would develop an advertising network that functioned as I have described, their value would increase exponentially. Even if they made an announcement stating their intentions to create this type of advertising network, the intrinsic value of the company would go up drastically. As of now though, if they can only offer a 0.04% click through rate, the value of Facebook is not very big. Let’s come up with an estimated value of their company as of now (keep in mind, this is really rough). If 85% (which is really high) of their 30 million users signed in daily there would be 25.5 million users signing in daily. If each of those users view 25 pages, there are 637.5 million page views per day. Of those page views only 0.04% end up with a click. That results in 255,000 clicks. At a rate of $0.20 per click (also relatively high) this would amount to $51,000 per day or $18.6 million per year. Why would anyone want to pay $6 billion? That is over 322 times gross earnings. Pretty nuts huh?

If Facebook could get their click through rate up to 1% this would boost their earnings to $465 million. That would make a purchase of $6 billion result in a multiple of 13 times gross earnings which is pretty reasonable. I would be willing to bet that a targeted advertising network would be relatively effective at getting a click through rate close to 1% and would immediately boost Facebook’s value. You think Facebook will launch an ad network in the coming year? I would bet on it!

Update
I have read that Facebook’s estimated earnings is $30 million. That means somewhere in my calculation I am underestimating something. Regardless, if that is really the case, Facebook’s earnings would be boosted almost to $1 billion if they could up their click through rate to 1%. Even upping to 0.5% would be amazing. The bottom line is that Facebook needs to make a demographic targeted ad network if they hope to get the high flying valuations that have been tossed around the blogosphere.