SAN FRANCISCO — Microsoft
Corp. is in talks with Facebook Inc. about making an investment in the
social-networking startup that could value Facebook at $10 billion or
more, according to people familiar with the matter.

The talks set up another likely face-off between tech titans: Google Inc. has also expressed strong interest in a possible Facebook investment, said people familiar with the matter.

Microsoft’s approach to Facebook in recent weeks with
proposals to invest in the fast-growing site is part of the software
giant’s effort to catch up with the Internet rival Google. If
successful, Microsoft’s talks with Facebook could give it an up-to-5%
stake in the closely-held startup—a stake potentially valued at roughly
$300 million to $500 million, the people familiar with those talks said.

The people familiar with the matter said that the
discussions are still preliminary and Facebook could wind up not taking
an investment from either Microsoft or Google. Factors in the
discussions include the valuation the suitors would offer to Facebook
and other business considerations they could contribute to sweeten any
deal.

A Facebook spokeswoman and a Microsoft spokesman
declined to comment. A Google spokesman could not immediately be
reached for comment.

Facebook, which is used by over 40 million people to
set up their own personal Web pages, to communicate with each other and
to share photos and videos, has emerged as the poster child for the
latest Internet wave. An investment in Facebook could give Microsoft or
Google greater opportunities to tie their services in with Facebook at
a time when they’ve both recognized that social networking is changing
how consumers tap into their core activities, such as Web search and
email.

The Facebook approach is also part of Microsoft’s
urgent attempt to strengthen its ad “platform,” which lets advertisers
automatically place ads on Web sites and on Microsoft’s Internet search
engine.

Microsoft’s platform strategy isn’t unique: Google and Yahoo
Inc. are also racing to establish their platforms as the broker of
choice for hundreds of thousands of advertisers on millions of Web
sites. That approach has taken on urgency as users and advertisers
increasingly spend time and dollars on sites besides the big,
established Web portals. Facebook itself is working on an ad platform
that would let marketers target users with ads based on their personal
information, using an automated Web-based system, according to people
familiar with the matter.

Microsoft and Facebook may also expand an exclusive
agreement signed last year under which Microsoft serves display ads to
Facebook, according to a person familiar with the matter. That existing
agreement covers only the U.S. and expires in 2011, but the companies
are discussing whether to extend it for a longer period and expand it
beyond the U.S., this person said. This person said that Facebook has
also discussed possible ad relationships with Google, though the
existing Microsoft agreement limits the options.

Facebook, meanwhile, is considering raising as much as
$500 million in cash that could be used for acquisitions, investing in
computer infrastructure and adding to its roughly 300-person headcount,
said the people familiar with the company.

Facebook has indicated that it might hold out for a
higher valuation – as much as $15 billion – than Microsoft is willing
to agree on, the people said. Such a move could attach a high value to
any Facebook pre-IPO shares it would use in acquisitions, to its
advantage.

Facebook is also considering raising funds from
financial investors, in addition to or instead of an investment from a
strategic investor like Microsoft or Google, one person said. The
company has so far raised about $40.7 million from venture-capital
firms including Founders Fund, Accel Partners and Greylock Partners.

Microsoft has considered trying to buy the company
outright, but people familiar with the matter said it’s unlikely at
this time. Facebook founder Mark Zuckerberg has steadfastly kept his
company independent with the goal of eventually taking the company
public. In a round of negotiations last year, Mr. Zuckerberg rebuffed
acquisition approaches from Microsoft, Yahoo and others.

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