Retailers feast on free Facebook tools, shun ads

By Alistair Barr

CHICAGO (Reuters) - Krishan Agarwal, president of online luxury watch vendor Melrose.com, told a roomful of attentive Internet retailers last week how Facebook had helped his company generate about 25 percent more sales in two years.

Then he dropped a bombshell: Melrose spent less than $1,500 on Facebook ads during that time. Everything else the company did with Facebook was free.

"Some of the tools that are free are just a lot better than ads on Facebook," the former Dalton Investments hedge fund analyst explained, echoing other attendees at the Internet Retailer Conference & Exhibition in Chicago.

Agarwal's experience goes to the heart of the issues confronting Facebook Inc as it tries to turn its giant global network into a money machine. Advertisers love the platform but don't necessarily see the benefit in spending money on the ads.

Facebook is hoping to allay some of the doubts with new ad formats that provide better tracking of customer behavior. It's also beginning to insert ads directly into the "newsfeed," the stream of updates that all users receive, which should in turn help the company address the challenge of delivering ads on mobile devices.

Yet analysts increasingly suggest that over the long run, Facebook may have to begin charging for services that are currently free. Concerns about the company's reliance on advertising offerings which, unlike rival Google's, have not proven themselves to be game-changers for customers have helped shave $25 billion from Facebook's market value since it went public last month.

"They're in a huge pickle because most of their business is based on growth in advertising," said Forrester Research's Sucharita Mulpuru. But "why buy that cow when you get the milk for free?"

The experience of online retailers, which comprise a big piece of the online ad market and are thus a crucial sector for Facebook to win over, provides a clear view of Facebook's advertising challenge.