In my own experience, using the "Update All Contacts" creates new contact cards and doesn't change your contacts except the "Linked Contacts" field, which links your contact to his/her Facebook contact card.
When you view a contact card, it "shows" you the merged info on that contact. So if one of your contacts didn't have a picture, but the Facebook contact card has a picture, it will show the picture.
Also, when you're editing a contact which has several linked contact cards, you can set to show which picture to show on all contact cards. (Something like "unified picture", I don't remember it exactly and can't test it since I don't have any Facebook contact cards.)
P.S. about user24601's answer and iskra's comment, I must say that those "Groups" are really groups, and same contact cannot be in different groups. When you create a contact on iPhone (with iCloud set to on), it's placed under iCloud, but when you use "Update All Contacts", new contact cards are created and placed under Facebook group. You may want to remove your down-vote.
Also, I suggest not using different groups and thus several contact cards for each of your real-life (!) contacts. What I did to clear the mess created by "Update All Contacts" using Facebook, was to merge info manually and finally deleting the Facebook contact cards. For example I only had phone number of a friend, but his Facebook contact card had his email. So I added his email to his contact card by hand.
This way, your contacts app remains clean, one contact card for each person. This is more important if you're using Contacts.app on a Mac too.
Sorry for the long answer, hope it helps.