Microsoft acquisition of LinkedIn for $26.2bn a daring move

In a daring move yesterday, Microsoft chief executive Satya Nadella announced his intention to acquire the professional relationship site LinkedIn for $28.2 billion, less the $2 billion which LinkedIn already holds in cash.

LinkedIn was founded in 2002 by Reid Hoffman and team members from PayPal and Socialnet.com. Its business model is to encourage professionals to register and share their personal business contacts, and then to make the resulting network of connections available to recruitment agencies and other advertisers.

The company went public on the NYSE in May 2011 at $45 per share. The stock peaked at $270 per share in February 2015 on the back of impressive results from the prior quarter and a strong entry into the Chinese market.

Earlier this year, however, the company suffered a dramatic collapse in its share price from $205 to $101 after it presented a downbeat forecast for the remainder of 2016. The share price had recovered somewhat to $131 last Friday before Microsoft offered $196 yesterday – an extraordinary 50 per cent premium on Friday’s price.

Cash flow

Microsoft will pay for the deal in cash, raising debt to do so. The use of debt, rather than its own stock, minimises dilution for Microsoft shareholders. The sum involved is less than one year’s free cash flow for Microsoft and eminently financeable.

The deal enables LinkedIn to compete as a top tier player.

Having last year lost credibility on Wall Street, it has been challenging for the LinkedIn chief Jeff Weiner to re-energise the company. Competitors, and Salesforce. com in particular, have been building enterprise business solutions which exploit a network of business professionals.

Facebook at Work, launched in January 2015, directly threatens LinkedIn by enabling businesses to create their own social networks. Mr Weiner needed to make a strategic bet to inject growth back into the company.

For Microsoft, its Windows technology is no longer a monopoly on the industry. It has badly failed in the smartphone market now dominated by Apple and Google.

Microsoft also has a poor track record of major strategic acquisitions. Its acquisition in 2011 of the web telephony company Skype for $8 billion, and of Nokia's handset business in 2013 for nearly $7.9 billion are not case studies of success.

Intelligence

Mr Nadella envisions much with LinkedIn. He promises that LinkedIn can bring more intelligence to professionals using Microsoft’s Office 365 productivity toolset.

LinkedIn’s newsfeed will be integrated with Microsoft’s office tools so users can receive business information relevant to them. Microsoft’s Cortona digital assistant will be augmented to remind you of the connections you have with people you are about to meet for the first time, as scheduled in your calendar. Sales staff using Microsoft’s customer relationship management service will be able to receive extra background on new contacts and opportunities. Managers will be able to better explore the professional networks of their staff. Staff training will be improved by better targeting of different course alternatives.

Nevertheless, LinkedIn will require changes. Its growth rate has diminished from about 45 per cent last year to 20 per cent for 2016. Despite annual revenues of some $3 billion, it is not profitable once its staff’s stock-based compensation is taken into account. It has more than 433 million registered users, but fewer than a quarter of these use LinkedIn each month.

Clearly many of its registered users see little need for LinkedIn. Microsoft is paying about $60 per registered user, many of whom no longer use the site, and more than $240 per active user.

Within Europe, Microsoft may find increasing scrutiny by data protection commissioners of applications it intends to make using LinkedIn. Will it always be legitimate for sales staff to forage for information on strangers? When would it be appropriate for managers to mine the professional connections of their employees?

Data protection

The personal data held by LinkedIn may turn out not to be as valuable in Europe as Microsoft may aspire.

As ever, the guaranteed winners will be the transaction advisers. Microsoft’s advisor, Morgan Stanley, is expected to make at least $10 million for its guidance. Furthermore, Microsoft will issue corporate debt to finance the acquisition, which may bring at least a further $40 million in fees for its banker. Two firms, Qatalyst and Allen & Co, advised LinkedIn and are expected to together be paid at least $40 million.