Merry Christmas! With more updates

Credits: www.care2.com

A few updates in the run-up to Christmas:

  • Dividends & buybacks
    • Following issues with its latest Galaxy Note, Samsung decided to support its share price by boosting its dividends to 50% of its free cash flow. Samsung is also facing pressure from activist fund Elliott.
  • Unicorns & valuations
    • Stripe joined the unicorn club last month after being valued at $9bn despite raising less than 2% of this amount.
    • Unicorns in need to add liquidity to their shares but not meeting (yet) public market requirements have increasingly relied on secondary markets to trade shares, despite the lack of transparency associated with these semi-private markets. $1.2bn worth of transactions are expected to take place in 2016 at a time where tech company IPOs are expected to reach their lowest level since 2009 and investors are becoming increasingly cautious about overvalued sectors, including on-demand delivery.
    • Uber reported a $800m third-quarter loss although it states it is now cash-flow positive in some mature markets. Consolidated profitability seems far away still.
    • The mayor of Barcelona fined Uber and HomeAway €600k each last month for not complying with local licensing requirements. In France, Airbnb committed to send tax data to French authorities automatically rather than leaving it up to individuals to declare as it used to be the case. Registration will be made compulsory for landlords willing to let their property more than 120 days a year.
  • Cybersecurity
    • Yahoo revealed that 1bn users were stolen personal data in 2013 in an attack dwarfing the one reported in 2014. Compromised datasets may include names, email addresses, telephone numbers, birth dates as well as poorly encrypted passwords. This security issue may thus create vulnerabilities for other websites, as users tend to recycle the same password for multiple websites, according to Lisa Pollack from the Financial Times.
    • Hackers targeted the SWIFT messaging network with the help of Bangladesh central bank officials, highlighting the vulnerability of IT systems to insider fraud.
    • A couple of weeks ago France unveiled its cybersecurity policy. The country aims to build defensive capabilities as well as an offensive arsenal, which could include traditional weapons.
    • Several hedge funds investors warned big data sellers that they were failing to properly hide personal information. Cross-referencing information enables recipients to waive the anonymity of the data.
  • Active & passive investing, bonds & equity
    • The passive investing frenzy seized bond markets, which now ‘host’ more than $600bn of fixed income ETFs, threatening the stability of the financial system, according to experts. The bubble around fixed income is expected to weaken in the coming months given the Fed’s willingness to raise interest rates three times next year – subprime borrowers have already started to feel the heat.
  • Blackberry, LinkedIn, Twitter, Apple
    • Blackberry raised its full-year profit outlook as its software & services business generated more than 50% of its sales over the last quarter. Management expects to bring the company back to profitability on an adjusted basis in the full year.
    • Russian authorities blocked access to LinkedIn for its 6 million users in the country as Russian legislation requires personal data of Russian citizens to be stored on Russian territory.
    • LinkedIn added a robot tool to its chat interface in order to trigger more numerous conversations between individuals and ultimately gathering more data on its users.
    • For its part Twitter suffered another executive departure as its chief technology officer Adam Messinger resigned after 3 years in the job.
    • Apple is the latest investor to express interest in Softbank’s $100bn planned tech fund.

I unfortunately doubt that I will have the time to publish another post before the end of the week, so I wish all readers a Merry Christmas and I look forward to publishing again in the New Year at the latest.

More updates…

We start the week with the latest news that have been shaking up some of the topics we have already covered in this blog.

News brought to you courtesy of Warren. Credits: Daily Mail.
News brought to you courtesy of Warren. Credits: Daily Mail.
  • Apple struggles to maintain its market share in China according to the company’s latest filings released last month. Although Apple’s revenues in the country are up 50% compared with 2014, local rivals such as Huawei, Vivo and Oppo have been offering cheaper although similarly powerful devices. The firm is supposedly eyeing towards India as its next revenue growth driver. In the meantime it launched its latest ‘product’, a retrospective book entitled ‘Designed by Apple in California’, and priced the Apple way: $199 to $299 depending on the edition.
  • Twitter has announced it would cut 9% of its workforce in order to keep costs down. This comes at a bad time for the firm which have been increasingly criticised for allowing cyberbullying, racism and misogyny to flourish on its platform and now has to find a new COO after the departure of Adam Bain. Twitter responded by suspending several accounts belonging to right-wing extremist groups, although it has for the moment ruled out ‘instant message moderation’. The idea that “good speech naturally wins out” is a fallacy, argues heather Brooks in the Financial Times.
  • The election of Donald Trump in the US caused a mini-stock market shock to tech values. Mr. Trump is indeed believed to ease the tax policy surrounding corporate earnings made overseas – currently those earnings are taxed at 35% and the rate could go down to as low as 10%. This explains why Microsoft, Apple and Google have been keeping billions of dollars offshore. This news could have been welcomed but are investors actually fearing what executives are going to do with this ‘idle’ money?
  • Notwithstanding this rumour Facebook announced earlier this week a $6bn share buyback aimed at curbing the negative share price impact of an expected growth slowdown expressed during its latest quarterly result presentation. This decision represents an archetype of buyback for ‘wrong’ reasons, as flagged in my post a few months ago. Facebook is not buying shares because it believes they are cheap but because it needs to satisfy its existing shareholders – a typical value-destroying move.
  • Microsoft’s acquisition of LinkedIn could trigger a wave of antitrust challenges, according to Marc Benioff, Salesforce’s CEO. LinkedIn’s data could indeed provide Microsoft with a unique competitive advantage especially in the field of CRM – hence Mr. Benioff’s ire. As a response Microsoft proposed to give rivals access to its software and offer hardware makers the option of installing other services.
  • SoftBank is entering the ‘tech unicorn’ investor market the big way, through the launch of a $100bn fund anchored by Saudi Arabia. The implied equity cheque size (up to $5bn according to its CEO) could provide a private exit door for a handful of existing unicorns reluctant to go through the ‘IPO gateway’.
  • Sigfox, the French ‘Internet of Things’ specialist, could soon join the unicorn club, being valued at €600m according to its latest fundraising round. The operation was relatively unique in the sense that it gathered public entities, private companies and VC funds around the same (investor) table.
  • Fitbit could conversely become the next ‘unicorpse’. The company’s share price has declined by 80% over the last 18 months as tech behemoths have been progressively entering the field of connected objects. On its side, Fitbit tried to put the blame on one of its suppliers to explain its recent supply chain disruptions – whereas analysts attribute this phenomenon to incorrect demand forecast.
  • Karhoo has already reached this status, filing for bankruptcy after just 6 months of activity. The start-up, which raised $250m and was employing 120 people despite only generating $1m of revenues in London. A very aggressive promotional policy, consisting of ‘thousands of pounds of vouchers’, alongside a “ludicrous lack of corporate governance”, led the company to ruin in a highly contested market.
  • Nutmeg managed to raise £30m from international investors despite posting pre-tax losses of £9m this year.
  • Snapshat could be the big IPO of 2017, hoping to raise additional equity at an implied valuation of $20bn to $25bn – although the exact amount still needs to be determined. The two founders will keep the control in any case through the use of preferred shares.
  • Uber faces legal challenges in the UK, where a court ruled that Uber drivers were not independent but actually salaried workers. In France the fact that some Uber drivers could under some circumstances be promised a minimum wage is also a cause for dispute.
  • The Airbnb business model is being challenged in an increasing number of cities. After New York and San Francisco, Berlin and London have joined the fight to prevent the firm from putting pressure on dwelling supply and subsequently pushing rents up in the most touristic areas. After relentlessly fighting all forms of regulatory resistance, the firm has changed its approach and is now intending to strike as many tax deals as possible with the cities it operates in – bringing the figure up from 200 to 700 and covering 90%+ of its revenues.

That is it for this week in terms of updates! Next post (hopefully later this week) will introduce the cybersecurity topic.

Link(ed)In the dots

linkedin-and-microsoft-logosLast week Microsoft announced its intention to buy LinkedIn for a total consideration of $26bn. This is a big move, even bigger than the $22bn acquisition of Whatsapp by Facebook in 2014. The reason why I did not write earlier about it is that I was trying to understand the move. After a week thinking about it, I just cannot.

broken-linkedin
Credits: www.analyzingsocial.com

Well, for LinkedIn’s shareholders, the deal is hard to refuse: LinkedIn’s share price has been suffering since the beginning of the year as the market has become increasingly sceptical about the social network’s sustainable future growth rate. Worse, fundamental shortcomings have become more numerous and obvious: low user engagement (less than 25% of users connect more than once a month), unclear purpose (from networking the firm entered business news and professional education), struggling profitability (despite $3.2bn in sales, the company reported a negative net income of -$170m last year) penalised by low ad revenues (6 times lower than the ones generated by Facebook in the US) and a raising dependence on professional services as opposed to individuals (‘talent solutions’ now account for c.65% of the firm’s revenues, which will soon have a hard time justifying its ‘social network’ primary status). Microsoft’s offer, at a 50% premium over the pre-announcement share price, represents a godsend in that respect.

LinkedIn's share price evolution since 01/01/2016. Source: Yahoo Finance
LinkedIn’s share price evolution (in USD) since 01/01/2016. Source: Yahoo Finance

AAEAAQAAAAAAAAOIAAAAJGQzMGIwMWJmLTJlYjUtNDE2OC04YmE2LTkzZDJkNzJhZDhmMgTo justify this high price, Microsoft mentioned the competitive tension generated by the presence of Salesforce. One can never predict in advance how well an integration will work and to which extent synergies would have been delivered, but such a merger would have made more sense: the two firms serve the same purpose – i.e. connecting professionals, either individuals, marketers, recruiters or headhunters, in order to create business opportunities – and LinkedIn already integrates Salesforce’s Sales Navigator product. To close the loop, Microsoft made a $55bn offer for Salesforce last year, which was perceived as too low by the target’s Board of Directors.

In terms of valuation, LinkedIn’s forward PE ratio is one of the largest of the ‘web 2.0’ industry, only second to Yahoo! in the sample chosen below. This fact was true even before Microsoft made a move towards the ailing social network. Unfortunately, a forward PE ratio in the 40x+ area is a sign of perceived overvaluation, even for a tech firm – former holders of Yahoo! shares may not disagree on that one.

Price / Forward Earnings Benchmark using various LinkedIn share prices. Sources: CapitalIQ, Author analysis
Price / Forward Earnings Benchmark using various LinkedIn share prices. Sources: CapitalIQ, Author analysis

This deal is also haunted by Microsoft’s appalling track record in handling and integrating large acquisitions. Experts obviously have in mind the disastrous acquisition Microsoft did in 2014 when it acquired Nokia’s Devices and Services’ business for $7.3bn before writing-off almost the entirety of the acquisition assets less than 18 months later. At best, the Redmond firm managed to maintain a ‘status quo’, as it has done with Skype since 2011 – and questions about the rationale were already present at the time. As a consequence, Microsoft’s share price reacted negatively following the announcement – only a 2.6% drop, which nevertheless still represents $10.5bn of lost shareholder value.

Credits: www.cagle.com
Credits: www.cagle.com
Jeff Weiner
Jeff Weiner: a happy man

So why such an unexpected alliance? In terms of synergies, the pitch is not obvious either. Jeff Weiner, LinkedIn’s CEO, mentions in his email to staff that the deal will “massively [scale] the reach and engagement of LinkedIn by using the network to power the social and identity of Microsoft’s ecosystem of over one billion customers”. Not sure what that means beyond having Outlook download data from LinkedIn to give you information on people you will meet. More generally, and contrary to what the Financial Times may think, I doubt that Microsoft’s products, which are targeted at enhancing the work efficiency within organisations, will be able to gain much insight from LinkedIn’s vast amount of outside-in data.

Alternative hypothesis: is Microsoft betting on internal corporate networks? In-house social networks are indeed becoming increasingly trendy. Even McKinsey believes that social tools will help reshape the way businesses work in a number of ways – see chart below. But internal social networks struggle to gain momentum and more importantly LinkedIn is not one of those. Indeed, the tool is well designed to search for individuals working for a particular firm, but it is unable to tell you how the firm is internally structured.

Sans titre
Social tools carry a Prévert-style inventory of benefits

Another possibility is that Microsoft is trying to add content on top of its software offer. Social networks now represent the primary source of information for more than half of all online news consumers, and this trend comes with interesting ad revenues prospects attached. But LinkedIn is trailing Facebook or Youtube in that respect.

For me, the move was launched primarily to manage market perception. Microsoft is currently sitting on more than $100bn of cash & equivalents. This war chest cannot sit unused within the company for ever. There are only 3 solutions to that conundrum. One, Microsoft could pay hefty dividends as Apple did. The issue is that it would admit (as already highlighted on this blog) that Microsoft is running out of worthwhile investment opportunities. This is fine when you are Apple and sitting on hit products such as the iPhone, but much more worrying when you are Microsoft and holding onto an ageing operating system. Two, Microsoft could buy back some of its shares but this move would be uselessly expensive given that Microsoft’s shares trade near all-time highs. Three, Microsoft could pretend it is moving full steam ahead towards cloud computing, artificial intelligence and professional networking by making acquisitions. This is the path Satya Nadella and his team have chosen, a path similar to the one Marissa Mayer unsuccessfully led Yahoo! to, but targets in the space are scarce and, as the saying goes, “anything scarce should become expensive”. To make the bill more palatable, the acquisition is partly financed through debt which, given Microsoft’s AAA rating, represents a net cost savings – the tax shield amount more than largely offsetting the incremental debt interest costs.

Microsoft-LinkedIn-SlideShare
Credits: www.exoplatform.com

Although spectacular by its size, this acquisition strategy is not unique. Tech behemoths ‘of the past’ see that, after more than a decade of steady and healthy cash flows, the new wave of innovators, led by Facebook, Google and a tribe of unicorns, can in the relatively short-term jeopardise their business model. To fight against the new entrants, they cannot rely on their in-house innovation skills, which have aged together with the rest of the organisation. In a (final?) burst, they are now spreading their cash, hoping they will manage to integrate the right engines for future growth – think about Blackberry and its push in cybersecurity for instance. Massive war chests, overvalued (tech) stocks, cheap debt, ageing organisations: the perfect recipe for disaster and value destruction, sadly.

BSOD2