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UVA-C-2382

Nov. 9, 2016

Facebook’s Acquisition of WhatsApp: The Rise of Intangibles (A)

Susan Shaw had a number of diverse interests. In addition to a rising legal career, she loved whitewater
rafting, gourmet cooking with friends, Broadway musicals, volunteering at the local homeless shelter, and
investing in the stock market. It was the investing pursuit that occupied her attention this cold and rainy
Saturday morning. On her desk, she had several pages of Facebook Inc.’s 2015, 2014, and 2013 financial

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statements that she had had the foresight to print out earlier in the week at the office. She was intrigued with

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the idea of investing in a company that sure seemed like an investment winner.

As she perused the financial statements, her normal starting point for learning more about the performance

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of a company, the first thing she noticed was that in the 2014 financial statements there were some huge
differences from the 2013 statement for a number of line items, including Total Assets, Goodwill, Additional
Paid in Capital, Revenue, Net Income, and Net Cash Used in Investing Activities (see Exhibit 1). The reported
dollar amounts for many of these items, sprinkled across the 2014 balance sheet, income statement, and
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statement of cash flows, had more than doubled. “I wonder what’s up,” she mused. “I guess I’ll need to delve
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into the details to find out. It sure seems unusual that a company could double in size in just one year—there
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must have been a merger of some sort.” Indeed, a simple Google search of “Facebook and 2014 mergers”
turned up a number of hits. Eight of the first ten search listings referred to the company, WhatsApp Inc. Her
interest was piqued, so she poured another cup of coffee and began her methodical review.

Facebook, Inc.

Historically, February 4 was noteworthy for a variety of reasons. In 1826, the James Fennimore Cooper
classic, Last of the Mohicans, was published and remains popular to this day. Almost 100 years later, in 1922, Ford
Motor Company purchased Lincoln Motor Company for $8 million in one of the most high-profile corporate
acquisitions up to that time. In 1938, Disney released the pathbreaking and enduring animated movie, Snow
White and the Seven Dwarfs. The first electric portable typewriter was offered for sale in Syracuse, New York, on
February 4, 1957. Also on that day, in 1998, Bill Gates, of Microsoft fame, was unceremoniously hit in the face
with a cream pie, by a local hooligan, upon his arrival for a business meeting in Brussels. And on February 4,
2004, Mark Zuckerberg, then a 19-year-old Harvard college student, quietly launched Facebook from his
dormitory room.1

Shortly after its launch, Zuckerberg was asked what Facebook was. He replied:

1 Two sources were used for these events on February 4: https://www.google.com/?gws_rd=ssl#q=history.com%2Fthis-day-in-history and

http://www.on-this-day.com/ (both accessed May 3, 2016).

This public-sourced case was prepared by Professor Mark E. Haskins. It was written as a basis for class discussion rather than to illustrate effective or
ineffective handling of an administrative situation. Copyright  2016 by the University of Virginia Darden School Foundation, Charlottesville, VA. All
rights reserved. To order copies, send an e-mail to sales@dardenbusinesspublishing.com. No part of this publication may be reproduced, stored in a retrieval system, used
in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of the Darden School
Foundation.

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[Facebook is] an online directory that connects people through universities and colleges through their
social networks there. You sign on, you make a profile about yourself by answering some
questions…[provide] contact information [and] anything you want to tell [such as] what books you
like, movies, and most importantly, who your friends are. Then you can browse around, see who
people’s friends are, and just check out people’s online identities and see how people portray
themselves and just find some interesting information about people. When we first launched, we were
hoping for 400 or 500 people [and] who knows where we’re going next—maybe we will make
something cool!2

From Facebook’s 2014 Form 10-K available online through the Securities and Exchange Commission
(SEC) website, Shaw read:

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Our mission is to give people the power to share and make the world more open and connected…Our

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top priority is to build useful and engaging products that enable people to connect and share through
mobile devices and personal computers. We also help people discover and learn about what is going

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on in the world around them, enable people to share their opinions, ideas, photos and videos, and
other activities with audiences ranging from their closest friends to the public at large, and stay
connected everywhere by accessing our products…Our business is characterized by innovation, rapid
change, and disruptive technologies. We face significant competition in every aspect of our business,
including from companies that provide tools to facilitate communications and the sharing of
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information, companies that enable marketers to display advertising, and companies that provide
development platforms for application developers. We compete to attract, engage, and retain people,
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to attract and retain marketers, and to attract and retain developers to build compelling mobile and
web applications that integrate with Facebook, and to attract and retain highly talented individuals,
especially software engineers, designers, and product managers.

Shaw recalled that it had not been so long ago that there had been quite a buzz about Facebook’s initial
public offering (IPO). Indeed, with much anticipation and excitement, that IPO had taken place on May 18,
2012. By the end of that day, $16 billion had been raised, indicative of a total market capitalization for the
company then of just under $91 billion.3 The following few years were witness to that corporate valuation rising
and falling, at times quite dramatically. In spite of those fluctuations, however, the general trajectory for
Facebook’s valuation was positive, as were many other aspects of Facebook’s place on the business landscape.

Fast forward. Shaw wondered what other current Facebook-related information she could easily obtain.
Among other things, she found that as of May 4, 2016, Facebook’s market capitalization was just over $337
billion.4 In concert with that valuation, and according to Forbes magazine, Zuckerberg was the sixth wealthiest
person in the world, with a net worth of just over $51 billion—and by far, he was the youngest person on the
Forbes list of the 100 wealthiest people in the world.5 Moreover, the Facebook global brand had risen from 69
in Interbrand’s 2012 ranking to 23 in its October 4, 2015, ranking (its brand value was estimated at slightly over
$22 billion).6 And the initially hoped-for 500 users had morphed into more than 1 billion daily active users

2 A. Shontell, “Hear How 20-Year-Old Mark Zuckerberg Described Facebook in This Throwback Interview,” Business Insider, May 14, 2014,

http://www.businessinsider.com/mark-zuckerberg-2004-interview-at-age-20-2014-5 (accessed May 4, 2016).


3 S. Schaefer, “Facebook’s Fall: Slide Carves $21B Off Market Cap in 7 Trading Days,” Forbes, May 29, 2012,
http://www.forbes.com/sites/steveschaefer/2012/05/29/facebooks-fall-slide-carves-21b-off-market-cap-in-7-trading-days/#604325de5c6f (accessed
May 4, 2016).
4 Facebook Market Cap, www.ycharts.com/companies/FB/market_cap (accessed May 4, 2016).
5 “Real Time Ranking,” Forbes, May 4, 2016, www.forbes.com/billionaires/list/ (accessed May 4, 2016).
6 www.rankingthebrands.com/The-Brand-Rankings.aspx?rankingID=37&year=697 (accessed Mar. 14, 2015);
www.interbrand.com/newsroom/interbrand-releases-2015-best-global-brands-report/ (accessed May 3, 2016).
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during March 2016, supported by more than 13,000 Facebook employees.7 Without a doubt, not bad for
“something cool” to have emerged in just 12 short years.

WhatsApp, Inc.

As a natural extension of her inquiry into Facebook, Shaw began learning about WhatsApp. Five years after
the birth of Facebook, Jan Koum and Brian Acton had founded WhatsApp. They were near fanatical about
developing an instant messaging system for smartphones focused on speed and reliability, eschewing the typical
advertising links and add-ons. In fact, at one time “a hand-written note on [Koum’s] desk read: ‘No Ads! No
Games! No Gimmicks!’”8 After tapping into the SEC’s 10-K website again, Shaw read:

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The Company provides a cross-platform communication application, which allows users globally to

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exchange unlimited text and multimedia (audio, video, and photo) messages without having to pay for
short messaging service (SMS) fees. Users can communicate through one-to-one messages, create

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groups, or broadcast lists. Currently, WhatsApp supports iPhone, BlackBerry (and BB10), Android,
Windows, Nokia S40, and Symbian platforms. Users can send messages via WhatsApp application
using existing mobile data connections or Wi-Fi. The Company is headquartered in Mountain View,
California. The Company provides messaging services through the WhatsApp Messenger application.
The users pay a subscription fee for the messaging service that the Company offers in certain countries.
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The Company derives revenue from two sources: (1) term subscription revenue, which is comprised
of subscription fees from users utilizing the WhatsApp messaging service through their mobile devices
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over a subscription period of one year, three years, or five years; and (2) perpetual subscription revenue
from users utilizing the WhatsApp messaging service on mobile devices that have perpetual
subscription periods.9

Several recent news articles that Shaw also came across provided some updates. Until recently, the user
subscription fee was only $1 a year. Because most users were outside the United States, in January 2016,
WhatsApp announced it would drop even that low fee “and explore ways that businesses can interact with the
mobile messaging service’s users.” According to Koum one of the co-founders, the subscription fee “really
doesn’t work that well in a lot of countries, and we just don’t want people to think that their communications
with the world will be cut off. Many users don’t have a debit or credit card to let them pay for the service.”10
After being acquired by Facebook, WhatsApp remained adamant that it would not move to a model relying on
“third-party ads to compensate for the loss of annual revenue fees.”11 It remained an open question of how
best to monetize the “one billion monthly active users who send 42 billion messages and share 1.6 billion
photos a day.”12 And undergirding this huge amount of activity was only a handful of engineers—about 50.13

7 SEC Form 10-Q, Facebook, April 25, 2016, http://www.sec.gov/Archives/edgar/data/1326801/000132680116000067/fb-3312016x10q.htm

(accessed May 4, 2016).


8 Adam Satariano, “WhatsApp’s Founder Goes From Food Stamps to Billionaire,” Bloomberg, February 20, 2014,
http://www.bloomberg.com/news/articles/2014-02-20/whatsapp-s-founder-goes-from-food-stamps-to-billionaire (accessed Apr. 30, 2015).
9 WhatsApp Financial Statements 2012, 2013,
https://www.sec.gov/Archives/edgar/data/1326801/000132680114000047/exhibit991auditedwhatsappi.htm (accessed May 4, 2016).
10 N. Drozdiak, “WhatsApp to Drop Subscription Fee,” Wall Street Journal, January 18, 2016, http://www.wsj.com/articles/whatsapp-to-drop-

subscription-fee-1453115467 (accessed May 5, 2016).


11 B. Molina, “WhatsApp to Drop Annual Fee,” USA Today, January 18, 2016, http://www.usatoday.com/story/tech/news/2016/01/18/whatsapp-

drop-annual-fee/78956536/ (accessed May 5, 2016).


12 J. Roettgers, “Facebook’s WhatsApp Now Has 1 Billion Monthly Users,” Yahoo! Finance, February 1, 2016,
http://finance.yahoo.com/news/facebook-whatsapp-now-1-billion-monthly-users-231919080.html (accessed May 5, 2016).
13 C. Metz, “Why WhatsApp Only Needs 50 Engineers for Its 900M Users,” Wired, September 15, 2015, http://www.wired.com/2015/09/whatsapp-

serves-900-million-users-50-engineers/ (accessed May 4, 2016).


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The Acquisition

On February 19, 2014, almost 10 years to the day since Facebook was founded, the company announced
it had reached a deal to acquire 100% of WhatsApp shares for $19 billion. Shaw was struck by the unabashed,
immediate exclamations coming from the business press describing the purchase price as “insanely high,” “an
eye-watering amount,” “a stunner,” “staggering,” “jaw-dropping,” and “a deal of historic proportions.”14 At
that point in time, WhatsApp was unprofitable (Exhibit 2), had a total of 55 employees, 450 million monthly
users, 1 million new users signing on per day, no ads, no platform for games, and a $1 annual fee after a free
first year of use.15 Despite these mixed indicators (i.e., unprofitable but lean in size, miniuscule revenue stream
but impressive user growth), the acquisition price was indicative of a market capitalization for WhatsApp that
exceeded that of such well-known and well-established companies as American Airlines, Ralph Lauren,

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Campbell Soup, and Coach.16 As another point of reference, Facebook had purchased Instagram two years
earlier for $1 billion; Yahoo! had purchased Tumblr for $1.1 billion in 2013; and Microsoft had paid only $8.5

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billion for Skype in 2011.17 The Facebook deal to acquire WhatsApp was epic by all accounts, but was it a stroke
of genius by Zuckerberg or was it a high-priced “roll of the dice” for possibilities, ideas, and access to a handful

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of talented individuals?

Shaw’s Focused Tasks


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Shaw could almost feel the drama and excitement that must have surrounded the deal—overnight wealth,
epic decisions, billion-dollar bets, and vision-inspired moves to capture the future. She had even come across
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some reports suggesting that Google had made a play for WhatsApp earlier at a price of $10 billion—an
assertion denied by Google.18

She wondered what else she might find about the deal on the SEC’s financial reporting website, Edgar. She
returned to: http://www.sec.gov/edgar/searchedgar/companysearch.html and entered the Facebook ticker FB
in the company filings search box that popped up and began to scroll through the list of filings. In particular,
she wanted more information from the January 29, 2015, filing of Facebook’s 2014 10-K, and she found some
details in Notes 1, 2, and 7 of Facebook’s 2014 10-K financial statements’ footnote excerpts (Exhibit 3).

Before turning to a review of Facebook’s 2015 financial statements that she would undertake in the next
week or two, Shaw wanted to be sure she understood several more things about 2014. Specifically, she wanted
to be able to answer several questions:

14 B. Solomon, “Stunner: Facebook to Buy Whatsapp for $19 Billion in Cash and Stock,” Forbes, February 19, 2014,
http://www.forbes.com/sites/briansolomon/2014/02/19/stunner-facebook-to-buy-whatsapp-for-16-billion-in-cash-stock/#3c1a194b3c1a (accessed
Mar. 14, 2015); L. O’Reilly, “There Won’t be Any Ads (yet), but Facebook’s Acquisition of WhatsApp is a Marketing Play,” Marketing Week, February
20, 2014, http://www.marketingweek.com/author/loreilly/page/23/ (accessed Jul. 12, 2016); Business Source Complete, EBSCOhost
https://www.ebscohost.com/academic/business-source-complete (accessed May 9, 2016); H. McCracken, “Facebook Buying WhatsApp for $19 Billion:
Yup, It’s a Deal of Historic Proportions,” Time, February 19, 2014, http://techland.time.com/category/companies-2/facebook/ (accessed Jul. 12, 2016);
J. Jeny-Cazavan, “WhatsApp Acquisition, Intangible Assets, and Sky-High Valuation,” http://knowledge.essec.edu/en/economy-finance/whatsapp-
acquisition-intangible-assets-and-sky-hig.html (accessed May 9, 2016); and P. Olson, “Facebook Closes $19 Billion WhatsApp Deal,” Forbes, June 10,
2014, http://www.forbes.com/sites/parmyolson/2014/10/06/facebook-closes-19-billion-whatsapp-deal/#cc219ae179ee (accessed May 9, 2016).
15 http://www.forbes.com/sites/briansolomon/2014/02/19/stunner-facebook-to-buy-whatsapp-for-16-billion-in-cash-stock/#3c1a194b3c1a.
16 http://www.forbes.com/sites/briansolomon/2014/02/19/stunner-facebook-to-buy-whatsapp-for-16-billion-in-cash-stock/#3c1a194b3c1a.
17 C. Boyte, “Explaining WhatsApp’s $19B Valuation,” Axial Forum, February 20, 2014, http://www.axial.net/forum/explaining-whatsapps-19b-

valuation/ (accessed May 3 2016).


18 D. Reisinger, “Facebook’s $19 billion WhatsApp Deal: Why Zuckerberg Paid So Much,” eWeek, February 24, 2014,
http://www.eweek.com/mobile/slideshows/facebooks-19-billion-whatsapp-deal-why-zuckerberg-paid-so-much.html (accessed Jul. 12, 2016);
https://www.ebscohost.com/academic/business-source-complete; M. Warman, “Google Did Not Bid for WhatsApp,” The Telegraph, February 26, 2014,
http://www.telegraph.co.uk/technology/google/10662526/Google-did-not-bid-for-WhatsApp.html (accessed Apr. 30, 2015).
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 What array of reasons possibly prompted Facebook to want to buy WhatsApp?


 What did Facebook actually get from buying WhatsApp?
 How might the $19 billion purchase price have been derived?
 Given the information in Exhibit 3, what summary accounting entry was made on Facebook’s books
to record the WhatsApp deal’s closing using the amount to be entered into the Additional Paid in
Capital (APIC) account as the amount (i.e., the “plug”) to make the entry balance?
 What specific ways did some key financial ratios differ for Facebook for 2013 versus 2014, and what
sorts of performance pressures did those differences point to?

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 How will the intangible assets that Facebook acquired in the WhatsApp deal be accounted for going
forward?

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It was dinner time. Where had the day gone? Shaw had been totally absorbed in the high-stakes world of

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corporate acquisitions and the related financial statement effects springing from those deals intended to paint
a picture of what had transpired. As a nonaccountant, she wondered if traditional financial statements and
reporting conventions were robust and effective in communicating the intricacies and details of deals such as
Facebook’s acquisition of WhatsApp. Moreover, what about Facebook’s own financial statement portrayal—
were all Facebook’s assets and enterprise value reflected in its balance sheets? Answering such questions might
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involve another rainy Saturday morning.


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Page 6 UVA-C-2382

Exhibit 1
Facebook’s Acquisition of WhatsApp: The Rise of Intangibles (A)
Facebook Inc. 2014 10-K Financial Statements (excerpts)

CONSOLIDATED BALANCE SHEETS (in millions, except for number of shares and par value)
December 31,
2014 2013
Assets
Current assets:

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Cash and cash equivalents $ 4,315 $ 3,323
Marketable securities 6,884 8,126

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Accounts receivable, net of allowances for doubtful accounts of $39 and $38 as of December 31,
2014 and December 31, 2013, respectively 1,678 1,109

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Prepaid expenses and other current assets 793 512
Total current assets 13,670 13,070
Property and equipment, net 3,967 2,882
Intangible assets, net 3,929 883
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Goodwill 17,981 839


Other assets 637 221
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Total assets $40,184 $17,895

Liabilities and stockholders’ equity


Current liabilities:
Accounts payable $ 176 $ 87
Partners payable 202 181
Accrued expenses and other current liabilities 866 555
Deferred revenue and deposits 66 38
Current portion of capital lease obligations 114 239
Total current liabilities 1,424 1,100
Capital lease obligations, less current portion 119 237
Other liabilities 2,545 1,088
Total liabilities 4,088 2,425
Stockholders’ equity:
Common stock, $0.000006 par value; 5,000 million Class A shares authorized, 2,234 million and
1,970 million shares issued and outstanding, including 13 million and 6 million outstanding shares subject to
repurchase, as of December 31, 2014 and December 31, 2013, respectively; 4,141 million Class B shares
authorized, 563 million and 577 million shares issued and outstanding, including 6 million outstanding
shares subject to repurchase, as of December 31, 2014 and December 31, 2013, respectively — —
Additional paid-in capital 30,225 12,297
Accumulated other comprehensive (loss) income (228) 14
Retained earnings 6,099 3,159
Total stockholders’ equity 36,096 15,470
Total liabilities and stockholders’ equity $40,184 $17,895
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Exhibit 1 (continued)

CONSOLIDATED STATEMENTS OF INCOME (in millions, except per share amounts)


Year Ended December 31,
2014 2013 2012
Revenue $ 12,466 $ 7,872 $ 5,089
Costs and expenses:
Cost of revenue 2,153 1,875 1,364
Research and development 2,666 1,415 1,399
Marketing and sales 1,680 997 896

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General and administrative 973 781 892

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Total costs and expenses 7,472 5,068 4,551
Income from operations 4,994 2,804 538

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Interest and other income/(expense), net (84) (50) (44)
Income before provision for income taxes 4,910 2,754 494
Provision for income taxes 1,970 1,254 441
Net income $ 2,940 $ 1,500 $ 53
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Less: Net income attributable to participating securities 15 9 21


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Net income attributable to Class A and Class B common stockholders $ 2,925 $ 1,491 $ 32
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Earnings per share attributable to Class A and Class B common stockholders:


Basic $ 1.12 $ 0.62 $ 0.02
Diluted $ 1.10 $ 0.60 $ 0.01

CONSOLIDATED STATEMENTS OF CASH FLOWS (in millions)


Year Ended December 31,
2014 2013 2012
Cash flows from operating activities:
Net income $ 2,940 $ 1,500 $ 53
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 1,243 1,011 649
Lease abandonment (31) 117 8
Share-based compensation 1,786 906 1,572
Deferred income taxes (210) (37) (186)
Tax benefit from share-based award activity 1,853 602 1,033
Excess tax benefit from share-based award activity (1,869) (609) (1,033)
Other 7 56 15
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Exhibit 1 (continued)

Changes in assets and liabilities:


Accounts receivable (610) (378) (170)
Prepaid expenses and other current assets (123) 355 (465)
Other assets (216) (142) 2
Accounts payable 31 26 1
Partners payable (28) 12 (2)
Accrued expenses and other current liabilities 328 (38) 152
Deferred revenue and deposits 10 8 (60)

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t Other liabilities 346 833 43

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Net cash provided by operating activities 5,457 4,222 1,612
Cash flows from investing activities:

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Purchases of property and equipment (1,831) (1,362) (1,235)
Purchases of marketable securities (9,104) (7,433) (10,307)
Sales of marketable securities 8,438 2,988 2,100
Maturities of marketable securities 1,909 3,563 3,333
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Acquisitions of businesses, net of cash acquired, and (4,975) (368) (911)


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purchases of intangible assets


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Change in restricted cash and deposits (348) (11) (2)


t Other investing activities, net (2) (1) (2)
Net cash used in investing activities (5,913) (2,624) (7,024)
Cash flows from financing activities:
Net proceeds from issuance of common stock — 1,478 6,760
Taxes paid related to net share settlement (73) (889) (2,862)
Proceeds from exercise of stock options 18 26 17
Proceeds from long-term debt, net of issuance cost — — 1,496
Repayment of long-term debt — (1,500) —
Proceeds from sale and lease-back transactions — — 205
Principal payments on capital lease obligations (243) (391) (366)
Excess tax benefit from share-based award activity 1,869 609 1,033
Net cash provided by (used in) financing activities 1,571 (667) 6,283
Effect of exchange rate changes on cash and cash (123) 8 1
equivalents
Net increase in cash and cash equivalents 992 939 872
Cash and cash equivalents at beginning of period 3,323 2,384 1,512
Cash and cash equivalents at end of period $ 4,315 $ 3,323 $ 2,384
Data source: http://www.sec.gov/Archives/edgar/data/1326801/000132680115000006/fb-
12312014x10k.htm#s236616EB7D91825F31F9AA564850FECB (accessed May 4, 2016).
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Exhibit 2
Facebook’s Acquisition of WhatsApp: The Rise of Intangibles (A)
WhatsApp, Inc. 2013 Financial Statements (excerpts)

BALANCE SHEETS (in thousands, except for number of shares and par value)
December 31,
2013 2012
Assets
Current assets:

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Cash $ 45,542 $ 6,558
Accounts receivable 2 2,161

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Prepaid expenses and other current assets 2,866 933
Total current assets 48,410 9,652

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Restricted cash 1,800 –
Property and equipment, net 281 186
Other assets 295 1,112
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Total assets $ 50,786 $ 10,950


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Liabilities, redeemable convertible preferred stock, and stockholders’ deficit


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Current liabilities:
Accounts payable $ 3,983 $ 1,125
Accrued liabilities and other current liabilities 5,810 445
Early exercise liabilities, current portion 548 33
Deferred revenue, current portion 16,247 5,119
Total current liabilities 26,588 6,722
Early exercise liabilities, non-current portion 332 43
Deferred revenue, non-current portion 33,129 24,243
Total liabilities 60,049 31,008
Redeemable convertible preferred stock:
Redeemable convertible preferred stock, par value of $0.000001 per share; 100,644,440 and 42,222,220
shares authorized as of December 31, 2013 and 2012, respectively; and 49,885,055 and 42,222,220 shares
issued and outstanding with aggregate liquidation preference of $58,250 and $8,250 as of December 31,
2013 and 2012, respectively 420,281 8,250
Stockholders’ deficit:
Common stock, par value of $0.000001 per share; 300,000,000 Class A and 300,000,000 Class B shares
authorized as of December 31, 2013 and 250,000,000 Class A and no Class B legally shares authorized as
of December 31, 2012; 169,396,000 Class A and 250,000 Class B issued and outstanding, including
8,436,347 outstanding shares subject to repurchase as of December 31, 2013 and 159,034,940 Class A and
no Class B legally issued and outstanding, including 4,590,062 outstanding shares subject to repurchases as
of December 31, 2012 – –
Additional paid-in capital – 43,486
Accumulated deficit (429,544) (71,794)
Total stockholders’ deficit (429,544) (28,308)
Total liabilities, redeemable convertible preferred stock, and stockholders’
deficit $ 50,786 $ 10,950
Page 10 UVA-C-2382

Exhibit 2 (continued)

STATEMENT OF OPERATIONS (in thousands)

Year Ended December 31,


2013 2012
Revenue $ 10,210 $ 3,821
Costs and expenses:
Cost of revenue 52,867 18,858
Research and development 76,911 34,487

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G General and administrative 18,870 6,035

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Sales and marketing 30 17
Total costs and expenses 148,678 59,397

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Loss from operations (138,468) (55,576)
Other income (expense), net (264) 8
Loss before benefit from income taxes (138,732) (55,568)
Benefit from income taxes 586 899
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N Net loss $ (138,146) $ (54,669)


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STATEMENTS OF CASH FLOWS (in thousands)


Year Ended December 31,
2013 2012
Cash flows from operating activities:
Net loss $ (138,146) $ (54,669)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 71 61
Share-based compensation expense 98,805 38,259
Changes in operating assets and liabilities:
Accounts receivable 2,159 (819)
Prepaid expenses and other current assets (1,884) (166)
Other assets 817 (985)
Accounts payable 2,858 712
Accrued liabilities and other current liabilities 5,366 92
Deferred revenue 20,014 14,016
Net cash used in operating activities (9,940) (3,499)
Cash flows from investing activities:
Changes to restricted cash (1,800) —
Purchase of property and equipment (166) (119)
Net cash used in investing activities (1,966) (119)
Page 11 UVA-C-2382

Exhibit 2 (continued)

Cash flows from financing activities:


Proceeds from issuance of redeemable convertible preferred
stock, net of issuance costs 49,802 —
Proceeds from exercise of stock options, net of repurchases 1,088 82
Net cash provided by financing activities 50,890 82
Net increase (decrease) in cash 38,984 (3,536)
Cash, beginning of period 6,558 10,094

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Cash, end of period $ 45,542 $ 6,558

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Data source: https://www.sec.gov/Archives/edgar/data/1326801/000132680114000047/exhibit991auditedwhatsappi.htm (accessed May 4, 2016).

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Page 12 UVA-C-2382

Exhibit 3
Facebook’s Acquisition of WhatsApp: The Rise of Intangibles (A)
Facebook Inc. 2014 10-K Financial Statement Footnote (excerpts)

Note 1 Summary of Significant Accounting Policies (partial):

Business Combinations
We allocate the fair value of purchase consideration to the tangible assets acquired, liabilities assumed and
intangible assets acquired based on their estimated fair values. The excess of the fair value of purchase consideration
over the fair values of these identifiable assets and liabilities is recorded as goodwill. Such valuations require

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management to make significant estimates and assumptions, especially with respect to intangible assets. Significant

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estimates in valuing certain intangible assets include, but are not limited to, future expected cash flows from acquired
users, acquired technology, and trade names from a market participant perspective, useful lives and discount rates.
Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently

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uncertain and unpredictable and, as a result, actual results may differ from estimates. During the measurement period,
which is one year from the acquisition date, we may record adjustments to the assets acquired and liabilities assumed,
with the corresponding offset to goodwill. Upon the conclusion of the measurement period, any subsequent
adjustments are recorded to earnings.
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Long-Lived Assets, Including Goodwill and Other Acquired Intangible Assets


We evaluate the recoverability of property and equipment and finite-lived intangible assets for possible
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impairment whenever events or circumstances indicate that the carrying amount of such assets may not be
recoverable. Recoverability of these assets is measured by a comparison of the carrying amounts to the future
undiscounted cash flows the assets are expected to generate. If such review indicates that the carrying amount of
property and equipment and intangible assets is not recoverable, the carrying amount of such assets is reduced to
fair value. We have not recorded any significant impairment charge during the years presented.

We review goodwill for impairment at least annually or more frequently if events or changes in circumstances
indicate that the carrying value of goodwill may not be recoverable. We have elected to first assess the qualitative
factors to determine whether it is more likely than not that the fair value of our single reporting unit is less than its
carrying amount as a basis for determining whether it is necessary to perform the two-step goodwill impairment
under Accounting Standards Update (ASU) No. 2011-08, Goodwill and Other (Topic 350): Testing Goodwill for
Impairment, issued by the Financial Accounting Standards Board (FASB). If we determine that it is more likely than
not that its fair value is less than its carrying amount, then the two-step goodwill impairment test is performed. The
first step, identifying a potential impairment, compares the fair value of the reporting unit with its carrying amount.
If the carrying amount exceeds its fair value, the second step would need to be performed; otherwise, no further step
is required. The second step, measuring the impairment loss, compares the implied fair value of the goodwill with
the carrying amount of the goodwill. Any excess of the goodwill carrying amount over the applied fair value is
recognized as an impairment loss, and the carrying value of goodwill is written down to fair value. As of
December 31, 2014, no impairment of goodwill has been identified.

Acquired finite-lived intangible assets are amortized on a straight-line basis over the estimated useful lives of the
assets. The estimated remaining useful lives for intangible assets range from less than one year to 15 years. Acquired
indefinite-lived intangible assets related to our in-process research and development (IPR&D) are capitalized and
subject to impairment testing until completion or abandonment of the projects. Upon successful completion of each
project, we will make a separate determination of useful life of the acquired indefinite-lived assets and the related
amortization will be recorded as an expense over the estimated useful life of the specific projects.
Page 13 UVA-C-2382

Exhibit 3 (continued)

In addition to the recoverability assessment, we routinely review the remaining estimated useful lives of property
and equipment and finite-lived intangible assets. If we reduce the estimated useful life assumption for any asset, the
remaining unamortized balance would be amortized or depreciated over the revised estimated useful life.

Note 2 Acquisitions (partial):

WhatsApp
In October 2014, we completed our acquisition of WhatsApp Inc. (WhatsApp), a privately-held cross-platform
mobile messaging company that is expected to provide us with strategic advantages in the mobile ecosystem and

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expand our mobile messaging offerings. Pursuant to the merger agreement, we issued approximately 178 million

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shares of our Class A common stock and paid $4.59 billion in cash…Upon acquisition, WhatsApp became our
wholly-owned subsidiary. The acquisition was accounted for as a business combination. […]

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Oculus
In July, we completed our acquisition of Oculus VR, Inc. (Oculus), a privately-held company developing virtual
reality technology that is expected to expand our platform. Pursuant to the merger, we issued 23 million shares of
our Class B common stock and paid $400 million in cash. [….] We have accounted for this acquisition as a business
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combination. This method requires, among other things, that assets acquired and liabilities assumed in a business
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combination be recognized at their fair values as of the acquisition date and that in-process research and development
(IPR&D) be recorded at fair value on the balance sheet regardless of the likelihood of success of the related product
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or technology. […]

Other
During the year ended December 31, 2014, we also completed several other business acquisitions for total
consideration of $485 million. These acquisitions were not material to our consolidated financial statements either
individually or in the aggregate. We have included the financial results of WhatsApp, Oculus and the other business
acquisitions, which are not material, in our consolidated financial statements from their respective dates of
acquisition. […]

The fair value of assets acquired and liabilities assumed from our acquisition of WhatsApp and Oculus was
based on a preliminary valuation and our estimates and assumptions are subject to change within the measurement
period. The primary areas of the purchase price that are not yet finalized are related to income taxes and residual
goodwill. Measurement period adjustments that we determine to be material will be applied retrospectively to the
period of acquisition in our consolidated financial statements and, depending on the nature of the adjustments, other
periods subsequent to the period of acquisition could also be affected. The following table summarizes the allocation
of estimated fair values of the net assets acquired during the year ended December 31, 2014, including the related
estimated useful lives, where applicable:
Page 14 UVA-C-2382

Exhibit 3 (continued)

WhatsApp Oculus Other


Useful lives Useful lives Useful lives
(in millions) (in years) (in millions) (in years) (in millions) (in years)
Finite-lived intangible assets:
Acquired users $ 2,026 7 $ — $ —
Trade names 448 5 113 7 26 5
Acquired technology 288 5 235 5 68 3-5
Other 21 2 19 2 61 5

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IPR&D — 60 —

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(Liabilities assumed) assets acquired (33) — 103
Deferred tax liabilities (899) (107) (48)

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Net assets acquired $ 1,851 $ 320 $ 210
Goodwill 15,342 1,533 275
Total fair value consideration $ 17,193 $ 1,853 $ 485
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IPR&D intangible assets represent the value assigned to acquired research and development projects that, as of
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the acquisition date had not established technological feasibility and had no alternative future use. The IPR&D
intangible assets are capitalized and accounted for as indefinite-lived intangible assets and are subject to impairment
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testing until completion or abandonment of the projects. Upon successful completion of each project and launch of
the product, we will make a separate determination of useful life of the IPR&D intangible assets and the related
amortization will be recorded as an expense over the estimated useful life of the specific projects.

Goodwill generated from the WhatsApp acquisition is primarily attributable to expected synergies from future
growth, from potential monetization opportunities, from strategic advantages provided in the mobile ecosystem, and
from expansion of our mobile messaging offerings. Goodwill generated from all other business acquisitions
completed during the year ended December 31, 2014 is primarily attributable to expected synergies from future
growth, from potential monetization opportunities and, also for Oculus, as a potential to expand our platform. All
goodwill generated during this period is not deductible for tax purposes.

Note 7 Goodwill and Intangible Assets (partial):

The changes in carrying amount of goodwill for the years ended December 31, 2014 and 2013 are as follows (in
millions):

Balance as of December 31, 2012 $ 587


Goodwill acquired 252
Balance as of December 31, 2013 $ 839
Goodwill acquired 17,150
Effect of currency translation adjustment (8)
Balance as of December 31, 2014 $ 17,981
Page 15 UVA-C-2382

Exhibit 3 (continued)

Intangible assets consist of the following (in millions):


December 31, 2014 December 31, 2013
Useful lives from Gross Net Gross Net
date of acquisitions Carrying Accumulated Carrying Carrying Accumulated Carrying
(in years) Amount Amortization Amount Amount Amortization Amount
Finite-lived
intangible assets:
Acquired users 3-7 $ 2,056 $ (85) $ 1,971 $ 30 $ (6) $ 24
Acquired
technology 2 - 10 813 (144) 669 227 (65) 162

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Acquired

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patents 2 - 18 773 (239) 534 773 (142) 631
Trade names 2-7 632 (46) 586 45 (8) 37

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Other 2 - 10 164 (55) 109 63 (34) 29
Total finite-
lived
intangible
assets $ 4,438 $ (569) $ 3,869 $ 1,138 $ (255) $ 883
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Indefinite-lived
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intangible assets:
IPR&D $ 60 $ — $ 60 $ — $ — $ —

Total intangible
assets $ 4,498 $ (569) $ 3,929 $ 1,138 $ (255) $ 883

Amortization expense of intangible assets for the years ended December 31, 2014, 2013, and 2012 was $319
million, $145 million, and $78 million, respectively.

As of December 31, 2014, expected amortization expense for the unamortized acquired intangible assets for the
next five years and thereafter is as follows (in millions):

2015 $ 710
2016 691
2017 648
2018 600
2019 518
Thereafter 702
Total $ 3,869
Data source: http://www.sec.gov/Archives/edgar/data/1326801/000132680115000006/fb-
12312014x10k.htm#s236616EB7D91825F31F9AA564850FECB (accessed Apr. 4, 2016).