On the surface, that's a huge sum for a tiny startup that has a handful of employees and no way to make money.
But the lack of a business model rarely dampens excitement about hot tech upshots these days. As Facebook has shown, itself without ads or revenue in its early days, money goes where the users are.
Instagram lets people share photos they snap with their mobile devices. The app has filters that can make photos look as if they've been taken in the 1970s or on Polaroid cameras. Its users take photos of everything from their breakfast egg sandwiches to sunsets to the smiling faces of their girlfriends.
Instagram's fans, brand recognition and its potential are difficult to put a price tag on. Yet Facebook has — and can afford it. The company is preparing for an initial public offering of stock that could value it at as much as $100 billion in a few weeks. What's $1 billion? A drop in the bucket, really.
"Facebook after this IPO is going to be in a position to be predatory. They can make sure no one steps in their way and buy anyone who gets in their way," said Wedbush analyst Michael Pachter, who follows social media.
Buying Instagram, he added, not only eliminates a rival but gives Facebook the technology "that is gaining crazy traction."
Facebook is paying cash and stock for San Francisco-based Instagram and hiring its dozen or so employees. The deal is expected to close by the end of June.
It's a windfall not just for Instagram's employees, but the venture capital firms backing the company. Last week, Sequoia Capital led an investment round that valued Instagram at $500 million, according to a person familiar with the matter. The person was not authorized to speak publicly and spoke on the condition of anonymity.
Going by the $1 billion price tag, Facebook is paying about $33 for each Instagram user. That's a fraction of the $118 that Facebook investors will be paying per Facebook user if the company gets its expected $100 billion valuation after going public. By that math, Pachter said, $1 billon "doesn't sound crazy."
Getting Instagram is a big win for Facebook as it works to harness people's growing obsession with their mobile devices and sharing every moment of their life. The company's own mobile application is not as easy to use as Instagram, and sharing photos can be downright clunky. Facebook's way, noted Pachter, has always been to buy technology if it's better than what it can build on its own.
Facebook, which is based in Menlo Park, California, said it plans to keep Instagram running independently. That's a departure from its tendency to buy small startups and integrate the technology — or shut them down altogether just so it can hire talented engineers and developers.
"This is an important milestone for Facebook because it's the first time we've ever acquired a product and company with so many users," CEO Mark Zuckerberg wrote on his Facebook page Monday announcing the deal. "We don't plan on doing many more of these, if any at all."
He said Facebook plans to keep allowing people to post from Instagram to other social networks. Users will also be able to keep their Instagrams off of Facebook if they want to.
"We think the fact that Instagram is connected to other services beyond Facebook is an important part of the experience," Zuckerberg said.
Tech bloggers and analysts immediately began wondering whether Facebook's commitment will be eternal.
"There's a long history of companies acquiring other companies and saying that they are going to continue to support the service — and then not," said Debra Aho Williamson, an analyst with research firm eMarketer.
One relatively recent example is Cisco Systems Inc., which killed off the much-loved Flip video camera less than two years after buying the company behind it.
There were some mutterings online about users leaving Instagram now that Facebook has bought it, though in reality Facebook will probably make it more popular.
There's a good reason for Facebook to keep Instagram going as a separate product, even if Facebook integrates some of its technology into its own service so that mobile photo sharing becomes easier. Google, for example, has kept YouTube separate even as it integrated some of its features into other products.
"Look at who Facebook is competing with — the Googles, Apples, Microsofts of the world. They have to build a strong brand and strong consumer platform," Gartner analyst Brian Blau said. "Having a separate social network ... is something they needed to do a long time ago."