On The Github page, it states:
In Xcode, open the Facebook SDK by selecting File->Open... and selecting src/facebook-ios-sdk.xcodeproj. With your own application project open in Xcode, drag and drop the "FBConnect" folder from the Facebook SDK project into your application's project.
I know this worked for me earlier this year, using Xcode 3.x and iOS 4.x, but now I'm doing a new project in Xcode 4.2 and iOS 5 and it doesn't work anymore. I'm unable to drag the folder into my project. Any ideas? What should I do instead?
It's a better idea to just include all the necessary files directly into your project - so everything inside the src directory, excluding the .pch and .xcodeproj files.
Also, it sounds like you found a bug in Xcode 4.2, so it might be a good idea to submit a bug report to http://bugreport.apple.com :)