Instagram’s Fortune or is it Facebook’s savings

I have been quite intrigued at Facebook’s deal last week for Instagram for a $ 1 bil in cash and stock.

The timing of the deal is far more interesting. So here’s a simplistic view keeping all those mega numbers in user base, valuation etc aside for a moment.

 

From Facebooks side –

-They are on the verge of their IPO which by all counts will value Facebook at several billions- say round numbers 100 B?!

-Cos. at this stage are in typically quiet, so a move of this nature at this time, has to be strategically important

-Their user base continues to grow and time spent on the site remains high

-Making money out of the business primarily through advertising

 

 

From Instagram’s side

-huge growth in user base -several hundred mil primarily on ioS

-Android as a new platform adding more users

-On the verge of. Funding round, valuing them at about $500 Mil

-No current way yet of making money

 

 

So from the looks of it, it does appear that there was no compelling reason to do a deal. After all both companies were experiencing enviable growth rates in the hot ‘social’ space

 

 

But here’s what could have been possible

Facebook’s Interests-

– A deal now rather than post IPO makes more sense as at that point Instagram’s expectations might have been really high- say twice the current level for starters. Especially since the rub off from a Facebook IPO will affect many players in the social tech world- that’s a multiplier Facebook would want to avoid paying for.

-there will be a sharp focus from several players on Instagram post IPO, and that could have ended up as a bidding war. In fact the whole space could get quite heated. Again something that Facebook would seek to avoid if possible.

-lastly it can pay for this deal in stock now ( pre- ipo) more than cash- something every target will understand.- say it was 75 pct stock and 25 pct cash.

 

 

Instagram’s interests –

-They may have been quite challenged on the revenue model – today pure play mobile CPC ad rates are far below than that of conventional desktop based Cpc’s. So to compensate for that, the eyeballs number would have to be really expansive. Which means more cost and time.

-Access to pre- IPO Facebook stock is attractive. There’s an automatic multiple that will be outside of this $1bil deal. i.e. the future value for a Facebook stock holder will be really attractive.

-Being the leading light in the mobile growth space inside Facebook might have attracted Instagram founders- they did make a statement saying they will remain independent.

 

 

Understand that mobile is an important space for Facebook to be in, but that rationale alone does not explain the valuation of an ‘eyeballs only’ business. So in summary the valuation might have something more to do with the pre-IPO nature of the buyer than anything else. Instagram got double it’s current valuation, but Facebook might have actually saved more over a longer time horizon. It does appear as a win-win.

 

Now the real question is how accretive will this deal be to Facebook in the next couple of years. Only time will tell.