Facebook Photo Bombs Instagram

Facebook bombs Instagram
Facebook bombs Instagram

If Instagram could do it all over again, maybe it would've blinked.

The leading photo-sharing app developer accepted a roughly $1 billion buyout bid from Facebook (FB) earlier this year, shortly before the world's largest social networking website operator went public.

It seemed like a great deal at the time, but Instagram's no longer a $1 billion company. As The New York Times' DealBook column points out, just 30% of the purchase was made in cash. Instagram's owners accepted Facebook stock for the balance of the deal.

Instagram accepted roughly 23 million shares valued at $30 apiece to go along with $300 million in cash to complete the $1 billion transaction.

Anyone pulling a stock chart on Mark Zuckerberg's social site knows that it's been a losing proposition.

This Paycheck Is Missing Some Zeroes

When Facebook went public at $38 in May it seemed like a shrewd move on Instagram's part to go for a largely stock-based transaction. The cash and stock value of the deal rose to nearly $1.2 billion.

However, as Facebook's stock has gone on to lose about half of its value in three months, Instagram has had the same sinking feeling.

Friday's close of $19.05 means that the value of the Instagram deal is now down to $738 million.

There's No Use Crying Over Spilt Millions

DealBook argues that Instagram could've protected itself by going with a floating share exchange ratio or a stock collar to provide some more stability.

That's true. Some mergers do include measures where the actual number of shares being distributed rises or falls based on a stock's moves. However, these maneuvers cut both ways. They protect the seller if the stock tanks after the deal closes, but they also protect the buyer if the stock climbs higher by lowering the number of shares required.

%Gallery-155939%It's easy to paint Instagram as a victim here, but if the deal's stock ratio were adjustable, and if Facebook's stock were trading about $30, then critics would argue that Instagram left money on the table.

Putting Most of Its Eggs in the Facebook Basket

Skeptics argued earlier this year that Facebook was overpaying for Instagram. The money-losing developer has yet to report any meaningful revenue. It's a free application for folks to take, edit, and share digital snapshots. Monetization efforts would come later.

However, it's Instagram's growth that's been turning heads.

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The app had just a million users by the end of 2010. As of April of this year it was up to 30 million.

Facebook noticed. Instagram users were loading up the social networking website with digital pictures, bypassing Facebook's own photo uploading tool. Nostalgic users would easily doctor up fresh pictures, giving them a retro finish.

It was a craze that Facebook couldn't ignore. It had the money. It had the momentum. It wasn't long before Zuckerberg himself brokered a deal.

Since so much of Instagram's success was tied to Facebook's growth, perhaps it was fitting that the shutterbug app developer's co-founders accepted a deal that would be paid mostly in Facebook stock. If the social networking website's fortunes would sag, one would argue that Instagram's value would also likely take a hit.

Overexposure Ruins Any Family Portrait

The problem now isn't that Facebook isn't growing. The dot-com rookie posted blowout quarterly results this summer. Revenue climbed 32% to $1.18 billion during the quarter, and Facebook is very profitable. There are now 955 million active Facebook accounts.

However, in retrospect, Facebook should've never gone public as a $104 billion company. And Instagram should've never agreed to a stock deal that valued Facebook so dearly.

Valuation matters.

When someone takes a bad digital picture, a second snapshot is just a click away. Unfortunately when it comes to this particular merger there's no such thing as a do over.


Motley Fool contributor Rick Munarriz does not own shares in any stocks in this article. The Motley Fool owns shares of Facebook. Motley Fool newsletter services have recommended buying shares of Facebook.

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