Cambridge Analytica scandal poses test for Facebook investors – with a backlash already beginning

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As politicians around the world call Facebook to task over its data use crisis, the tech giant is confronting a rising backlash from another key constituency: its shareholders.

Even after a tumultuous year of congressional hearings and evidence that Russian actors exploited the platform to foment discord, Facebook emerged with its financials in strong shape. Now a fresh controversy is posing another test.

News that the consulting firm Cambridge Analytica deployed data from a deep reservoir of users for political ends swiftly reverberated across Wall Street, sending Facebook’s stock value plummeting and erasing billions of dollars in value.

While Facebook has been adamant that privacy violations were the fault of Cambridge Analytica and a researcher who passed along data, not of the social media site itself, rattled investors are already accusing the company of deceiving them and hurting their wallets.

A class action lawsuit filed in San Francisco accuses Facebook of failing to disclose that it violated its privacy safeguards and, in the process, inflicted “significant losses and damages” on investors who have watched a “precipitous decline in market value” result.

The lawsuit for an undisclosed number of Facebook shareholders, led by Fan Yuan, said: “As a result of [Facebook’s] wrongful acts and omissions, and the precipitous decline in the market value of the company’s common shares, plaintiff and other class members have suffered significant losses and damages”.

The legal action represents investors who bought Facebook shares between 3 February 2017 and 19 March 2018 – two days after news of the Cambridge Analytica scandal broke. Specifically, it alleges that Facebook failed to disclose to investors that it had violated its own data privacy policies by allowing third parties to access the personal data of millions of users without the users’ consent.

Paul Grewal, Facebook’s deputy general counsel, said that the company is “committed to vigorously enforcing our policies to protect people’s information. We will take whatever steps are required to see that this happens,” he said.

There are also signs that financial regulators may take action. The Federal Trade Commission (FTC) is reportedly investigating Facebook to see if the company has breached a 2011 consent decree that included mandates around consumer privacy; while the FTC declined to confirm whether an investigation was under way, a commissioner alluded to intensifying scrutiny.

“The FTC takes the allegations that the data of millions of people were used without proper authorization very seriously”, commissioner Terrell McSweeny said in a statement.

Yet despite those gathering clouds, Wall Street analysts have been largely optimistic so far.

While some analysts have slashed their share price targets, the larger consensus has been that Facebook has weathered past storms and would do so again.

In a note to investors, Raymond James analyst Aaron Kessler acknowledged that lingering concerns over Russians activity on Facebook and “data misuse” are weighing down share prices, and he noted that the US and Europe were likely to consider more regulations. But he still concluded with a “positive outlook” on the company’s shares.

One takeaway from 2017 was Facebook’s ability to thrive even when engulfed in controversy, and Mr Kessler noted that users and advertisers – both of whom offer key benchmarks for Facebook’s growth – haven’t been spooked yet.

“We would note that we do not believe past regulatory concerns have impacted Facebook user engagement or advertising, though we will continue to monitor the situation”, he wrote.

Even with the the prospect of a “consumer backlash” hanging over Facebook, analyst SunTrust Robinson Humphrey said in a note that the outlook for Facebook remained strong because its fundamental appeal was unchanged.

“We do not see a material impact on advertiser demand given how well this channel performs for marketers”, the note said.

That appeal has endured even as Facebook’s public image has suffered a series of blows.

Last year, as evidence began piling up that the site allowed propaganda and distortions to proliferate, boosted by advertisements paid for by foreign actors, a company that was once invoked by politicians largely as a vaunted paragon of innovation came under withering criticism in Congress. Some of the site’s billions of users began to sour on the platform as they learned more about how the site’s sophisticated advertising targeting tools and mechanisms for boosting viral content – even if that content was designed to inflame or mislead – allowed it to be weaponised during a presidential election.

But you might not know that from perusing Facebook’s financial disclosures. The company’s revenue surged from around $26.9bn (£19.1bn) the year earlier to some $40.6 bn, and it saw its number of daily active users jump from around 1.23 billion to some 1.4 billion (though its users in the US and Canada did tick downward). Advertising revenue, a critical indicator of the company’s health, grew by 48 per cent.

“2017 was a strong year for Facebook, but it was also a hard one,” CEO Mark Zuckerberg said in a January statement accompanying the financial update. “In 2018, we’re focused on making sure Facebook isn’t just fun to use, but also good for people’s well-being and for society”.

Now Mr Zuckerberg’s company is again facing sharp questions about protecting its users, what Goldman Sachs analyst Heath Terry described to CNBC as “the latest story as part of this bigger issue”.

The broader fiscal consequences, Mr Terry said, would depend on what regulation materialises and how Mr Zuckerberg and his leadership team respond. But he was sceptical that users would abandon Facebook en masse, noting that “for most people the utility outweighs these kinds of issues”. And he noted that Cambridge Analytica’s targeting of users may, from the perspective of people with a financial stake in Facebook, affirm the site’s value.

“The dark way to look at this is the fact that Facebook advertising was used this way because it works,” Mr Terry said. “If we were not talking about moving political opinion but moving opinion about a brand or a product we wouldn’t be having this conversation”.