LinkedIn is a compelling long that I believe will revisit its recent highs in the mid-$200s in the next 18 months, as engagement is accelerating and FCF is inflecting sharply higher. A juggernaut and effective monopoly in what has become the winner-take-all industry of global professional networking, with an irreplicable and extremely valuable global Economic Graph asset and 86% gross margins, LNKD has recently been abandoned by growth investors and not yet identified by the value community. At today’s price, using conservative assumptions, we are paying only ~9x 2018E and ~6x 2020E Standalone EBITDA for a company growing operating income at a mid-30s rate, a massive runway for future growth, and several clear levers to pull to cause earnings to gap up substantially in quarters to come. Given LNKD’s one-of-a-kind Economic Graph and platform, there would be tremendous revenue and cost synergy with a number of offensive and defensive strategic buyers, including Google, Microsoft, Facebook and Salesforce. Founded and controlled by one of the world’s preeminent technological and societal visionaries, Reid Hoffman, and managed by one of the most respected non-founder CEOs in Silicon Valley, Jeff Weiner, LNKD shareholders are backing an elite team with a $2bn+ ownership stake. Importantly, I see a low probability of permanent capital loss from this price.
Based in Mountain View, CA, LinkedIn Corporation (“LNKD”) is the ubiquitous professional networking platform which connects the world’s professionals to make them more productive and successful, and transforms the way companies hire, market and sell. The company’s vision is to create economic opportunity for every member of the global workforce through the ongoing development of the world’s first Economic Graph. In 2015, LNKD generated 63% of its revenue from Talent Solutions (incl. Recruiter, Jobs, Learning & Development), 19% from Marketing Solutions (Sponsored Updates, Ads) and 18% from Premium Subscriptions (Professional/Individual, Sales Navigator, ProFinder). The U.S. represented 62% of sales and International represented 38%. LNKD’s market capitalization is $16.7 billion, and with cash & equivalents of $3.1bn against $1.3bn of 0.5% 2019 notes, the company’s enterprise value is only $14.9 billion, down from $32+ billion just six months ago.
*Note: LNKD has several avenues for tremendous growth, in each of its three core divisions. Rather than writing about the minutiae of each division, this write-up is intended to focus on the few key factors that I believe will drive the success of the investment and where my view differs from consensus.*
Keys to the Thesis
- Juggernaut Business, but Orphaned Stock: LNKD, after reducing its guidance slightly in February, was fully and quickly abandoned by most growth investors and the sellside. As such, the company’s enterprise value is 54% below its November level. LNKD, however, is the unassailable leader of the professional networking industry, with 433 million members globally and growing at a 2 new members/second rate. In a winner-take-all industry, LNKD has won. Google, Facebook, Microsoft, Salesforce and others have no asset that is comparable.
- Accelerating User Engagement: Q1 was the first full quarter for the new mobile flagship, and engagement is accelerating higher. As CEO Weiner stated several weeks ago, “Members are engaging at record levels with the more relevant and comprehensive feed. During the quarter, viral actions increased more than 80%, daily shares were up nearly 40%, and traffic to third-party publishers grew more than 150%. We also continue to see significant growth in other core engagement metrics, such as profile edits, connections made, and messages sent. Additionally, we saw record levels of activity in our jobs products. Total jobs unique visitors hit a record high in Q1, up more than 20% versus last year. Job applicants from our mobile flagship app also reached record highs, up more than 50%.” I am not surprised, as I have noticed a significant increase in activity in my own network, and find myself checking the app and newsfeed a couple times per day.
- Ubiquitous and Mandatory: With 433mm members, and having added 19mm new members in 1q16 (2.4 new members per second!), LNKD is a must for professionals, recruiters and hiring companies, particularly in a world where it is common to change jobs every 2-3 years. LNKD is the primary tool of recruiters, the primary tool of companies to post jobs, and the primary tool of employees to market themselves professionally and build their professional networks. Whether you work for Facebook, Google, Palantir, Goldman Sachs, GE or 3M, you are most likely on LNKD. LNKD’s Sales Navigator is increasingly becoming a mandatory complement to sales people using third-party CRM systems.
- Irreplicable and Unique Strategic Asset: LNKD’s map of the global professional workforce and deep data on each person’s education, activities, interests and employment history, is irreplicable and extremely valuable. Economic Graph is an incredibly valuable, and dramatically under-monetized asset. Read about it here and watch CEO Jeff Weiner discuss it here and here. As Weiner says, “We’ve built the infrastructure. It’s not fantasy.”
- Rapid growth and margin expansion: Revenue growing in 20s, EBITDA growing in the 30s.
- Tremendous free cash flow coming: (1) Rapid profit growth, (2) negative net working capital, (3) sharply declining capex after 2016 and (4) substantial NOLs combine to result in tremendous FCF generation going forward. LNKD has $1.2 billion of Federal and $0.6 billion of California state NOLs that should be fully utilized in the next several years. Additionally, the company has R&D credits of $114 million. As a result, LNKD will not likely be a U.S. cash tax payer until 2018.
- Huge addressable market: The company has repeatedly noted that they are “in early days” of their growth. CEO Weiner said: “We continue to take a multiyear approach to evolving our monetization lines. Through sustained investment in our core technology and through targeted acquisitions, we have expanded our long-term market opportunity to more than $115 billion compared to approximately $50 billion at the IPO. This total addressable market is composed of $27 billion for Talent Solutions, $45 billion for Marketing Solutions, $15 billion for Sales Solutions and $30 billion in the Learning & Development market.”
- Recurring-revenue subscription business: Recurring revenue streams from Talent Solutions and Premium Subscriptions represent >80% of revenue, which I believe is preferable to advertising-driven Facebook and Google. That said, LNKD’s Sponsored Updates business is vastly under-monetized, it is a rapidly growing segment of the company, and this is an easy lever to pull.
- History of price increases, yet dramatically underpriced: LNKD has raised price several times in recent years as the network has continued to grow rapidly and the software tools have expanded and improved. See 2013, 2014 and 2015. However, with an estimated per seat cost range in the $6-9k/annum for the full Recruiter product, the tool recruiters call “indispensable” and “our #1 tool” remains priced far too low. A single headhunter fee for a single $200k position is $50-60k, many multiples of the cost for just one hire. The same dynamic exists for the Sales Navigator. Expect pricing to continue rising in reflection of LNKD’s effective monopoly status.
- Declining SBC: The company has stated that it expects stock based compensation to fall from 16% of revenue to 10%, making this much less of an issue, particularly as margins and FCF rise sharply. Given the platform nature of the business and heavy investment in expansionary initiatives, a substantial amount of SBC (and other expenses) could be eliminated post-transition by a strategic buyer, where platform extension is less of a priority. This is an 86% gross margin business. A buyer could likely run LNKD with a 50%+ EBITDA margin, versus current high 20s.
- Potential for a large share buyback: With $3.1bn of cash on hand and an estimated $5.6bn of FCF to be generated over the next 5 years, I estimate LNKD could theoretically repurchase 22% of its shares in year 1 if it were willing to use, or borrow against, its excess cash. Including FCF from years 2-5, I believe the company could theoretically repurchase 52% of its current sharecount by 2020. While I am not predicting such a massive initiative, I believe a buyback in some form is highly likely, similar to what Google, PayPal, eBay and other growing technology platform companies have recently announced.
- Perfectly-positioned for the new economy: Employees staying in jobs for shorter periods of time, changing jobs every 2-3 years. Low job security. Increasing entrepreneurship where people’s livelihoods are based on the effectiveness and broadness of their business networks. Increasing globalism. Massive movement to the middle class in emerging markets (and China, in particular, which is one of LNKD’s fastest-growing markets).
- China and India massive growth potential: While it is not yet a significant revenue driver, LNKD is growing very fast in China through (i) its LinkedIn China platform, (ii) the separately-run Chitu app and (iii) its Red Rabbit app targeted to younger users. As CEO Weiner said on the Q1 call, “China continues to be one of our fastest sources of member growth on a daily basis. We recently surpassed 20 million members, so very pleased with the progress there. Interestingly enough, that is not capturing the growth of the new localized mobile app that we launched in China, Chitu. And when we factor that in, the Chitu app is now growing at relatively similar rates to the extension of our global platform… I would add, we increasingly want to focus on engagement, and once growth and engagement are where we like them to be, we'll start to focus increasingly on monetization there in China.” As Bloomberg’s Katie Brenner described, LNKD “has been successful there because it’s the only foreign Internet company that offers something that a Chinese rival just can’t replicate – a direct connection between the world’s biggest companies, the world’s most respected universities, and bazillions of networking-starved Chinese who want to use the site’s services.” Additionally, LNKD just launched its first India-specific product – LinkedIn Placements – to target Indian students.
- Outstanding management and culture: After extensive reading, watching and listening to Reid Hoffman and Jeff Weiner over the last few weeks, it is clear to me that this is an elite team. This is corroborated by the phenomenal reviews of the company by employees on Glassdoor; notably, the rave reviews have continued in recent weeks even after the stock fell by >50%.
- Rhyming with history: LNKD has been through sharp, temporary declines in the past. In 2011, the stock went from $110 to $60 before going to $250, then falling back to $150 before rebounding to $260. As the company is now accelerating its performance and operating at record levels, I expect history to rhyme again. All great companies have gone through similar times while growing at high rates.
While my investment in LNKD is based on my appraisal of the standalone business and platform, the network’s rapid growth has created an impenetrable moat and geometrically higher network value (notwithstanding the current stock price). Founder Reid Hoffman notably was the member of the “PayPal Mafia” who spearheaded that company’s sale to eBay. With 14.7mm shares and a 53% controlling voting stake in the company, Hoffman is driving the bus. To that end, he reportedly spends every Monday at Greylock Partners offices, and the remainder of the week at LNKD HQ where is office is adjacent to CEO Weiner’s. As stated in the New Yorker profile of him, Hoffman said “More or less, if there’s anything in the Valley I’m going to know about it.” I fully expect that Hoffman will maximize value for shareholders, quite possibly through a sale to one of the following companies. To the extent the company was sold to one of the following companies, I would expect a tremendous amount of cost and revenue synergies. As such, in a competitive bidding scenario a valuation of $250-300 seems achievable given LNKD’s monopoly position, growth trajectory and expense structure.
- Google ($500bn market cap): Google+, the company’s fourth attempt to build a network (after Google Buzz, Google Friend Connect, and Orkut), has also not worked. It was not even mentioned in this year’s Google Founders’ Letter. Google’s stated mission is “to organize the world’s information and make it universally accessible and useful.” LNKD would immediately provide Google the global professional network it failed to build itself, and the treasure trove of individual and corporate data, along with the online education platform, would surely be valuable to Google at a level well beyond my ability to envision. From integration with Android, messenger, video calling, etc., the possibilities are manifold. If there is any company keenly interested in owning the global professional Economic Graph, it is probably Google.
- Microsoft ($400bn market cap): LNKD would be a perfect fit with Microsoft’s Office 365 and Microsoft Dynamics CRM platforms. It would allow Microsoft to get a huge leg up on Salesforce, and CRM is an area of priority for them. Further, integrating with Windows 10 and Skype would create an incredible platform. At present, LNKD’s Sales Navigator can be seen directly inside Microsoft Dynamics, for 10+ member team LNKD subscribers. Notably, it has been widely reported that Microsoft had been in discussion to buy Salesforce for $55-70bn.
- Facebook ($335bn market cap): Facebook was/is trying to start building an enterprise product called Facebook at Work to compete with Slack and Yammer, which allow businesses to create internal communication networks for their employees. As Recode reported in April, the concept is “moving slower than expected” and “a sidenote.” An acquisition of LNKD would immediately give FB the perfect complement to their ad-driven social network, a subscription-driven professional network that it could not replicate itself. Trading at 12x revenue, FB could pay virtually any price for LNKD and create an extremely accretive, and complementary, transaction.
- Salesforce ($55bn market cap)/SAP ($93bn market cap)/Oracle ($163bn market cap): As described in this article, “LinkedIn has an opportunity that none of today’s automation vendors can match. Even if Marketo and Salesforce joined forces, they’d be unable to give companies the true full-circle understanding of customers that LinkedIn could provide. That’s because LinkedIn has four unique assets that position it well to make a considerable run into this space (if it chooses to)… Whereas CRM and marketing automation systems start empty and you have to fill them up with contacts to campaign and prospect into, LinkedIn has a pre-populated database.” Additionally, LNKD’s robust Sales Navigator tools would be a perfect, and highly value-enhancing fit for any of these CRM players. SAP is a customer of LNKD, and has done a case study for Sales Navigator. As with Microsoft Dynamics, LNKD’s Sales Navigator can be seen directly inside Salesforce CRM, for 10+ member team LNKD subscribers.
Articles of Interest
- Potential for future cyclicality. While a sharp downturn may reduce job postings, corporate recruiting subscriptions would continue as the primary use tool, and it is very likely that layoffs would drive substantially increased Premium Subscriptions.
- Foreign exchange risk, as 38% of 2015 revenues were generated outside the U.S.
- Security risk. There was a 2012 security breach of emails and “hashed” (encrypted) passwords. For years, LNKD has both “hashed” and “salted” passwords and offered dual-factor authentication.
- Controlling party. Reid Hoffman controls the company through his ownership of Class B shares. Could make poor decisions, but I believe this is unlikely.
Disclaimer: The author of this idea presently has a long position in securities of this issuer and may trade in and out of these positions without notice. The data contained herein are prepared by the author from publicly available sources and the author's independent research and estimates. No representation or warranty is made as to the accuracy of the data or opinions contained herein. Please do your own research.
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.
- Value investor awareness and understanding.
- Continued growth of earnings, rapid growth of FCF.
- Buyback announcement.
- Sale of the company to one of several likely interested strategic buyers.