Facebook's Panic Buy

 | Apr 09, 2012 | 2:11 PM EDT
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Facebook is drawing many kudos today on the news that it's spending $1 billion to buy the six-employee team at Instagram. Most people -- aside from being impressed at the price paid -- are crediting Facebook with "getting" the importance of this application.

They are right that Facebook deserves respect for seeing how important this little app is and probably will continue to be. The question is, why do this now and spend this much money?

Instagram was seeking to raise a new round of venture capital at a $500 million valuation. Web companies got fired up and started poking around, looking to buy it.

Also likely a factor here is Facebook's coming IPO. The $1 billion price for Instagram is made up of cash and stock -- but we don't know how much cash and how much stock.

Facebook has about $4 billion in cash on hand. It's unlikely the company is going to want to spend a quarter of that on a start-up. Probably most of the deal is in stock -- and that was probably very enticing for Instagram's founders (compared to taking Google's (GOOG) stock, for example).

But the real reason Facebook bellied up to the bar here is that it is very worried about the shift from desktop PCs to mobile. We know that Facebook is losing money every time an average user logs in to Facebook on her mobile app vs. on the desktop version of the website. As this shift intensifies, Facebook's financials will take a hit -- even as the company tries to figure out how to make a lot more money on the desktop.

With this shift as a backdrop, consider that a new wave of mobile app start-ups like Instagram are emerging that focus on mobile devices. Instagram was cleaning Facebook photos' clock. By taking out Instagram now, Facebook is playing some good defense -- retiring a key new competitor.

So it's a great exit for the Instagram founders and backers, and it removes a competitor for Facebook, but what does it mean for Facebook long term? Not much. The company still has to make a lot more money from desktop ads ... and it has to figure out how to make any money at all from the secular shift to mobile.

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