Mike Isaac

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As Face-tagram Deal Wraps Up, a Morning With Kevin Systrom and Facebook’s Legal Team

It’s a cool Wednesday morning in San Francisco as I make my way up to the sixth floor of the California Department of Corporations. In a small room in the heart of the city sit representatives of Facebook and Instagram — the two companies who for the past four months have trudged through the arduous paper-trail process of becoming one.

As you may recall, Facebook announced at the beginning of April its intent to acquire Instagram for the sum of $1 billion. But snapping up a company in an acquisition of this size isn’t as easy as signing a check. Much of the past few months has been spent with the transaction in limbo, as the Federal Trade Commission reviewed whether it would take any antitrust regulatory action.

Last week, the companies cleared that hurdle, seen as one of the largest in the way of the acquisition. But this Wednesday at the DoC, we’re sitting in what’s called a Fairness Hearing. Trust me, it’s very dry stuff, a largely procedural event filled with legalese and hashing out the terms of the deal. It’s also something of a legal M&A fast track, a way of issuing Instagram its Facebook shares faster, while navigating around a lengthier, more expensive process that involves dealing with federal securities regulators.

At the end of the day, the DoC ended up ruling in favor of the deal, finding the acquisition “fair and equitable” for both parties. Typically, Berkeley Law Professor Robert Bartlett tells me, shares can be issued as soon as 10 days after the DoC issues the permit.

That’s all well and good for Instagram — it gets the money into the shareholders’ hands much faster — and it’s cheaper for Facebook. And approval was largely expected, since both Instagram and Facebook were pushing for the hearing.

More entertaining, however, is sitting back and watching the proceedings. A cadre of Facebook lawyers flank one side of the room, while Instagram’s representative counsel sits on the other side of the table. It is friendly yet stuffy, quiet — as courtrooms tend to be. Instagram CEO Kevin Systrom sticks out above all, the lanky, 28-year-old soon-to-be multimillionaire standing tall above everyone else in the room by a good four inches.

Virtually everyone, including Systrom, is wearing a tie, a stark contrast to the usual Silicon Valley setting, where hoodie- and T-shirt-clad engineers prevail over the Wall Street types in monkey suits.

The two camps are here to discuss the nitty gritty details of the transaction, something we don’t often get to witness in the flurry of major Internet companies snapping up their smaller, start-up brethren.

Most of it we’ve heard before: As part of the deal, Instagram will receive 23 million shares of class B Facebook stock, as well as around $300 million in cash. Instagram took the buyout in part because, as is the case for so many others in the valley, it wasn’t focused on a business model in the two years Systrom and his team were growing the site.

It is fascinating, however, to hear it come from the mouths of the two companies themselves.

At one point, DoC hearing officer Rafael Lirag asks Systrom how Instagram generates revenue: “That’s a great question — as of right now we do not.”

In fact, Instagram chalked up $2.7 million in losses over the two years it existed as a standalone start-up. That’s still fairly low, considering over that time the company managed to keep its headcount in the high-single-digit range, and only spent about one-third of the $7.5 million it had raised. (That is, before its last $50 million dollar round of financing, which closed just days before Facebook announced it would acquire Instagram.)

Systrom also speaks to a few issues that have been on the minds of many since Facebook went public. Back in April when the deal was first announced, Instagram was indeed considered the first billion-dollar app. That was based on private equity estimations of Facebook’s share value as a pre-IPO company. Now, of course, Facebook’s very public debut saw the share price plummet: Shares opened at $19.19 Wednesday morning, slashed nearly in half from the IPO issuance price of $38.

That’s gotta sting.

Systrom seems to shrug it off. “I’ve been taught throughout my life that there’s upside and downside in all public markets,” Systrom says. “I still believe firmly in the long-term value of Facebook.”

It’s a good thing, too. As soon as all the i’s are dotted and t’s are crossed, the whole team will move down from its San Francisco office to Facebook’s Menlo Park HQ, continuing to work on Instagram full-time. As of today, Facebook Corp Dev honcho Amin Zoufonoun said in the hearing, Facebook plans to keep the Instagram team working on its app, and continue it as a standalone product owned by Facebook.

Welcome aboard, gentlemen.

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I think the NSA has a job to do and we need the NSA. But as (physicist) Robert Oppenheimer said, “When you see something that is technically sweet, you go ahead and do it and argue about what to do about it only after you’ve had your technical success. That is the way it was with the atomic bomb.”

— Phil Zimmerman, PGP inventor and Silent Circle co-founder, in an interview with Om Malik