Facebook yesterday announced that it will pay $1 billion to acquire Instagram -- a company that is less than two years old, has no revenue and about a dozen employees. Remember, acquisitions are about what the acquirer can do with the company in the future, not some multiple of revenues or profits today. So why is Instagram worth $1 billion?
Facebook acquired Instagram for about $30 per user, or $1 billion. ($30/user X 33M users = $1B). Facebook is valued at about $100 per user or $80 billion ($100/user X 800M users = $80Bn). Other popular social apps are valued around $20 to $50 per user. The monetization models need to work out about the same to justify the valuations.
If Facebook was worth $80 billion last week, is it worth $81 billion now with the addition of Instagram? Yes. Here's why: The number one thing people do on Facebook is share photos. Photos are going mobile in a big way. Instagram is the clear leader in mobile photos. Instagram added one million users in the first day of availability on Android. Facebook needs a growth engine to show investors after they go public. Instagram is that growth engine, and it is worth much more than $1 billion to Facebook and its investors.
Web2.0 to Mobile. Everything is going mobile. Path, Instagram and FourSquare, are totally mobile, and don't care about the web. This could mark the turning point for another sea change; Web 2.0 to Mobile. Facebook has a horrible mobile app and needs to upgrade its mobile services. Path is the most elegantly designed mobile app, with an awesome user experience. Instagram is the best mobile photo app. FourSquare is the leader in mobile location data. All of them are critical to any company that wants to dominate the mobile paradigm shift.
Is Instagram worth $1B to Microsoft or Twitter? Probably not. Microsoft (msft) couldn't monetize the users and growth in the same way that Facebook can. Microsoft isn't focused on social or mobile photos. Twitter could realize a ton of value from Instagram, but $1 billion? Probably not. Twitter will still get lots of users and traffic from Instagram. They don't need to own it.
The value of a company is different for different potential acquirers. If Facebook can monetize its users in a way that justifies $100/user, than paying $30 per user for an acquisition is a great deal. For other potential acquirers maybe not. It depends on their monetization model, and what they plan to do with the acquisition in the future. This is why Instagram is worth $1 billion to Facebook, and why AOL (aol) patents are worth $1B to Microsoft. They both acquired good value for what they want to accomplish.
Don Dodge (@dondodge) is a Developer Advocate at Google helping developers build new applications on Google platforms and technologies. Prior to joining Google Don was a startup evangelist at Microsoft. This post originally appeared on his blog.