On Friday 1 May about $7 billion evaporated from the LinkedIn market valuation. That is a lot of money. It manifested in a 20% drop in the share price, although at times the share traded down more than 25%. Enthusiasm is not what it was.
One way of looking at a share value is to compare the price to the earnings of the company. This is the Price Earnings ratio (PE ratio) and historically, over the very long term, it has averaged at 17 for all of the S&P 500 Index. To give an idea of where LinkedIn sits, its PE ratio is currently over 500 and has been higher than 2100 during 2014. With a loss of $0.34 per share in the last quarter, you are paying a great deal of money in the hope of future growth and profit.
It is this future growth that many reports have previously mentioned. They spoke of revenue growth, earnings growth, unique visitors, ROI and growth in members which now stands at 364 million and is 23% higher than last year.
But the detail that appears to have rattled the market last week, is the poor guidance on future revenues. For the second quarter of 2015, the company expects earnings of $0.28 per share, on revenue of $675 million. By comparison, analysts had projected earnings of $0.74 per share on revenue of $718 million.
For the full year 2015, LinkedIn projects earnings of $1.90 per share on revenue of $2.90 billion. Analysts expected earnings of $3.03 per share on revenue of $2.98 billion.
Advertising accounts for only 19% of LinkedIn revenue. It is very evident that for long term viability this contribution must grow massively. Worryingly the contribution of advertising has remained virtually flat, rising only from 18% last year. While Talent-Solutions, their recruitment arm, provides the bulk of ad revenue, and has grown, display ads have fallen steeply most notably within Europe where they almost disappeared. Taking up some of the slack was content marketing which also helped keep the total ad component of revenue flat.
LinkedIn’s results last week were interim results. Full year results will come later in 2015. But the forecasts are amended sharply downwards and this did not sit comfortably with investors and shareholders.
But the feature that remains most worrying, certainly to the old school clique, is that LinkedIn does not make money. And by that we mean profit, not revenue, that is available to shareholders as dividends. After last week it appears more unlikely in the immediate future to make any profit at all. If a business loses money, even 1 cent a day, day after day, it will eventually die. That is a fact. LinkedIn does not make money and it does not pay its shareholders a dividend. It’s a waiting game.
Last week revealed the fragility of this waiting game with similar downward forecasts and sharp share price corrections occurring for both Twitter and Yelp. It was, in short, an interesting week with three major tech companies reporting downbeat interim results almost simultaneously.
In this new evolving digital era it is clear that not all current players will be equally lucky. The real battle lines have yet to be drawn. There will be many more successes and failures as the industry moves beyond infancy. There will also be consolidation and efficiency gains with the victors emerging stronger than before.
Many see the current share price declines as a buying opportunity and maintain that these tech giants will successfully monetise their reach in time. In contrast there are others such as Dan McCrum of the Financial Times that take a more jaundiced view: “What may be different this time are downward moves for some of the larger tech stocks prompted by disappointment around earnings, indicating genuine reassessment of the potential for these companies to take over the world.”
Andrew Barnes is an independent researcher and contrarian thinker. He manages De Facto Business Strategy Research.
IMAGE: Nan Palmero, Flickr Creative Commons
