VCs concerned about new Facebook strategy

Facebook may still be a startup, but its rapid growth as a social computing platform is giving it the kind of muscle normally flexed by giant public companies, such as Google or Microsoft.

Facebook is now flexing that muscle to try to set the terms of how most people will use the Internet.

Facebook CEO Mark Zuckerberg last month announced his ambitious plan to turn the Internet into one overarching “social graph,” where any person can “like” almost any website, automatically log in to those sites via his or her Facebook identity, and use a Facebook “social bar” to interact with Facebook friends using the same third-party site at the same time.

Whether or not users give their thumbs up to that idea, Facebook is already moving forward with it. Within a week of Zuckerberg’s announcement, 50,000 websites featured Facebook’s “like” button and other new applications. Facebook also launched a product called “Instant Personalization,” which provides data to certain third-party sites—including music service Pandora, user-generated review site Yelp, and Microsoft’s document viewer and editor.

Facebook’s plan has touched a nerve with privacy advocates, who worry that the social network would control a monster warehouse of users’ personal information and virtually everything they do on the Web, allowing it to sell that data to advertisers or make it available to other parties.

Several U.S. Senators, including Charles Schumer and Al Franken, detailed their concerns in a letter to Facebook last week, one stating that they “look forward to the [Federal Trade Commission] examining [the issue of sensitive personal biographical data and its protection].”

Some venture capitalists are also concerned about the plan, worried that its move might actually harm their Facebook-related investments. They have reason to be apprehensive. Over the past six years, VCs have invested at least $690 million in 49 startups that mention Facebook in their business descriptions, according to Thomson Reuters (publisher of PE Week). Tech database CrunchBase lists more than 90 companies that have received some form of funding and have been tagged as having a connection to Facebook.

Messages to several of Facebook’s venture backers were not returned by PE Week’s press time.

“Anyone that was trying to extend the social graph off Facebook is going to get hurt,” including companies like the user-driven social content site Digg, says Josh Felser, co-founder of the seed stage firm Freestyle Capital in San Francisco.

Other startups that might be on the endangered species list include those focused on smaller analytics sites and, likely, online ad networks.

“If you were paying for psychographics, Facebook will now have that information,” says Felser.

He adds that Facebook—which hasn’t announced what it will do with the vast amount of data it’s collecting—“could build the largest targeted ad network that we’ve ever seen before. I think the ad networks should be watching with a very wary eye.”

Jeff Jarvis, a prominent angel investor and startup adviser, says he’s “still trying to figure it out,” but his initial take isn’t very positive.

“Facebook is saying, ‘Your identity is really here [with Facebook],’” he says. “It feels like it’s just too much about Facebook and too little about us.”

It isn’t clear how many startups stand to benefit from Facebook’s plan. Its “Instant Personalization” launch partners—Pandora, Yelp and—are likely to get boosts. So might social startups, such as Formspring, according to Felser, an investor in the question-and-answer site.

“I think it’ll help people connect on Formspring and find people they’ll want to follow,” he says. “Maybe it will even prove helpful in selling advertising.”

Many startups are trying to remain optimistic.

For example, Michael Burke, co-founder of New York-based AppsSavvy, which develops contextually relevant programs for brands wanting to integrate themselves into a wide variety of social applications, calls Facebook’s plan “fantastic from a macrolevel.” Given that many more communities will now be tied into Facebook’s social graph, he says, many more of them are likely to revisit how they integrate brands, which is AppsSavvy’s specialty.

“For us, as this socialization takes place across the greater Web, we’re well positioned,” he says.

Manu Kumar, founder of the early stage venture firm K9 Ventures, has mixed feelings about Facebook’s plan.

“I both love it and hate it,” he says. “I love it because it creates a much richer and personalized experience on the broader Web. I hate it because of all the privacy concerns and one company having so much information.”