Opinion: Facebook's Acquisition of Instagram Resets Startup Expectations

April 17, 2012

by Mo Krochmal

Facebook’s recent acquisition of Instagram for $1B in cash and stocks has unleashed a new set of assumptions in the tech world that are simply crazy.

Can you construct a simple free tech application or service from scratch then sell it two years later and become a millionaire? Apparently, you can because that’s what happened to this San Francisco startup and it has the New York tech community abuzz.

Instagram launched in 2010 with a focus on mobile photography and no obvious mechanism for monetization. Founders Kevin Systrom and Mike Krieger attracted $500,000 in seed funding in March 2010 for their check-in project then called “Burbn,” which was actually an HTML5 application that combined Foursquare and Mafia Wars. They launched the product in the Apple Store on Oct. 6, 2010 and expanded their team by adding an engineer, community manager, and community evangelist.

In February 2011, Instagram closed a $7M Series A funding at a valuation of $25M for the app, now focused on mobile photo sharing and filters. They released their application for the Android market on April 3, 2012 and immediately attracted one million users and announced a $50M venture capital investment that valued the company at $500M. Then, the news came out on April 9th that Facebook had bought the company with 13 employees, 30 million users, and would allow it to continue independently.

An Irish bookmaker named Paddy Power even started taking bets on who would be next. As of early April, New York’s Foursquare was the favorite at 4 to 1 while New York’s Tumblr was number 8 at 25 to 1. So, will this financial lightning strike again? Perhaps. The acquisition was only the 37th venture-backed company to be purchased for $1B or more since 1991, but it is the third $1B acquisition this year, according to the Wall Street Journal Blog.

“This deal may excite more entrepreneurs to the point where they think their company is worth more than a venture capitalist may think it is worth,” Mark Heesen, President, National Venture Capital Association, told Bloomberg. “You have to dial back some expectations, at the same rate, I think it does excite folks to get up and actually create more companies.”

According to PWC's MoneyTree statistics, New York is a hot region for VC investment with $2.7B invested last year out of a total of $28B, compared to $1.9B for the metro NYC region in 2010 and $1.7B in 2009. Numbers aren’t in for the first quarter of this year, but New York has been riding an uptrend in VC investment, closing the gap on Boston.

The Instagram acquisition will no doubt excite entrepreneurs to try and follow the same path and early-stage investors will dream about this kind of home-run exit strategy, until the bubble bursts, as it inevitably will.

The problem is that the big companies now have the power and they can only do so many deals a year. Facebook made Instagram an offer it could not refuse. That is a data point, not a trend.

Mo Krochmal, the editor of Social Media News NY, has covered New York's emerging tech industry since the late 1990s when the monthly Cyber Suds gathering brought hundreds of Web 1.0 workers together. Follow him on Twitter @krochmal.