Zynga Deal Highlights Facebook's Vulnerability

• by Erik Sass , Staff Writer @eriksass1, May 24, 2010

Sometimes success tells you as much about a company's weaknesses as its strengths. This is the case with Facebook's recent deal with Zynga Game Network Inc.

According to one view Facebook can do whatever it pleases -- including controversial moves to share member information and fiddle with privacy policies -- because of its overwhelming popularity, which gives it a dominant position among online social networks. Reinforced by a continual chorus of media reports about the site, this widespread view has become a self-fulfilling prophecy, giving Facebook what I would call a "mindshare monopoly" (when's the last time you heard about MySpace?) and a great deal of momentum as a result.

However, events like the Zynga deal -- or more specifically, the negotiations leading up to the Zynga deal -- reveal how fragile and precarious Facebook's supposedly dominant position really is.

The last couple weeks saw Zynga, which operates popular casual games on Facebook including Farmville and Mafia Wars, assuming a surprisingly tough negotiating position in its talks with Facebook about the terms of their continuing partnership. Basically, Zynga objected to Facebook's plans to take a sizeable cut of Zynga's sales in Facebook's new virtual currency, and countered by threatening to take its games off Facebook. Although the negotiations finally ended with a deal keeping Zynga games on Facebook for five more years, the terms of the deal weren't disclosed, and Zynga almost certainly got more favorable terms than other developers using Facebook's virtual currency for e-commerce on the site.

This would appear to be a case of the tail wagging the dog. According to conventional wisdom, Facebook -- the colossus of online social networking -- should be able to charge premium tolls for access to its huge user base. Indeed, Zynga makes most of its money on sales of virtual goods on Facebook, and it wouldn't necessarily be a simple matter to migrate players to other Web destinations. But Facebook caved, suggesting a very different dynamic is actually at work.

Even though Zynga is dependent on Facebook as its current online host, in reality Zynga is holding all the cards because of the popularity of its games: essentially, Zynga brings more user engagement to Facebook than Facebook brings to Zynga. And this, in turn, points to Facebook's broader underlying vulnerability. If a couple simple online games (which didn't even exist until July 2007) now account for so much of Facebook's popularity, how much unique value does the rest of the site really offer users? Meaning, what features and functions does Facebook offer members, on its own, that can't be potentially duplicated elsewhere or eventually moved off-site by a partner like Zynga, should relationships sour?

After all, Facebook doesn't have a copyright on the basic model of the online social network, and many of the specific forms and functions it created for networking could probably be recreated without too much trouble and without copyright infringement. Meanwhile the pressure to monetize forces it to risk driving off partners like Zynga which now account for a large part of its popularity (not to mention members concerned about privacy issues).