In the wake of the Facebook IPO, many institutional investors considering putting money into Facebook have expressed concerns about Zuckerberg’s management potential and strategic thinking. Among the concerns is the logic behind the $1 billion purchase of photo-sharing app Instagram. See as Instagram was not a household name before the sale, many small businesspeople are logically asking not only how Instagram did it, but also whether their companies can do it, too.
Behind the Instagram Deal
No matter how one looks at it, $1 billion is an almost obscene price to pay for Instagram. The company is less than 2 years old, has only 13 employees and amazingly lacks any revenues or even a business model. The technology isn’t revolutionary nor does it have a team of mad geniuses locked away with non-compete agreements. None of the standard measures used to value a business can be applied to this transaction. So why did Zuckerberg move so quickly?
Buying a potential competitor. Instagram’s popularity was growing exponentially. By April 2012, more than 30 million accounts had been opened and over 150 million pictures uploaded. This is not Facebook-scale, but it has the potential to be. At $1 billion, Facebook only had to spend around 1 percent of its market value to eliminate this threat.
Development of a robust mobile platform. The future of the Internet will likely be based on mobile devices. Yet Facebook’s mobile app has yet to generate revenue. Despite all of Facebook’s success, it just hasn’t been able to figure mobile out yet. Spending $1 billion on an R&D project that could lead to mobile platform is justifiable.
Pre-emption of existing competitors. Photo sharing is one of the most popular features of Facebook, responsible for the “stickiness” of the website. There are many companies out there that have built mobile-based photo sharing applications. Some even have millions of users. With proper distribution and financial support, any one of these could become a potential threat to Facebook. Buying Instagram makes it almost impossible for its key competitors to acquire similar technology at a competitive valuation.
Why Your Company is Likely Different
Although your business may have revenues, high-margin profits, a diversified customer base and a proprietary technology, it is unlikely that you will be able to achieve the same degree of exit-strategy success as the founders of Instagram. Facebook is a unique suitor with very particular needs. Most acquiring companies across technology and non-technology sectors will value your company using traditional valuation methods. Unless you can convince Mark Zuckerberg that your company has the potential to dethrone Facebook or that you can help them figure out how to make billions in revenues from mobile devices, you will likely have to live the entrepreneur’s dream vicariously through the founders of Instagram.
Do you think that deals such as Instagram's will help or hurt the market for startup acquisitions in the long run?