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Why Is LinkedIn a Good but not the Best Investment?

August 27, 2014 | About:
Riddhi Kharkia

Riddhi Kharkia

1 followers

I am 24 and now when I open my chrome browser, the first URL I go to is not Facebook (FB) but LinkedIn (LNKD) because my career has assumed considerable significance over my social life. Sorry to have bothered you with some personal details but the point I intend to drive home is that LinkedIn has been quite successful in creating a niche market for itself and in spite of a good number of social networks, the importance of a network that specifically focuses on career is not redundant. In the recent earnings report, the company added 17 million new members due to the addition of innovative and engaging features. A recent Huffington Post article even went on to declare LinkedIn as the most powerful marketing tool of the 21st century owing to its magnanimous presence and specific targeting in terms of users (Read about it here).

A solid quarter

In the second quarter LinkedIn delivered adjusted diluted earnings per share (EPS) of $0.51 on revenue of $534 million. This reflects an increase of 34 percent in EPS from the previous year's earnings of $0.38. Similarly, the revenues also increased by 47 percent compared to the previous year's revenues $364 million. Since the end of July 2014 (when the Q2 earnings were announced), the stock has gained a phenomenal 25% on the exchange. Besides the flowery figures reported by the company, the thing that really pumped up investor confidence was a better-than-expected growth in user base.

The growth in revenues was primarily driven by revenues from Talent Solutions products that increased 49 percent compared to the previous year's figure. Looking ahead LinkedIn expects revenue to be between $543 million and $547 million in the current third quarter and between $2.14 billion and $2.15 billion for the full year. The company anticipates non-GAAP earnings per share of 44 cents and $1.80 for the same periods.

In focus: Mobile

Now, one of the primary reasons that sparked this revenue growth is LinkedIn’s constant efforts to produce and add engaging features to the website. Realizing the significance of mobile in the future growth blueprint, the company is putting credible efforts into growing its application portfolio. It recently launched an iOS app called Connected that allows LinkedIn members to easily deliver updates and opportunities in a timely manner. In addition, the mobile job search app has also played a part in boosting user activity. Users who have been actively using the app tend to view approximately 15 jobs per week. The number of job listings reached more than 1 million. The increased activity can be accurately estimated as the mobile views accounted for 40 percent of total jobs viewed in the current quarter compared to 25 percent in the previous year.

The best part of LinkedIn’s mobile strategy is the fact that they are not just limiting themselves to one single app. Instead, the company is attempting to create intuitive and simple experiences for an individual. LinkedIn embraces the fact that certain apps will make more sense than others during certain points in an individual’s career. It fully understands, and indeed, designs its mobile apps to be used a la carte.

Is valuation a pitfall?

Time and again, investors and analysts have expressed their scepticism around LinkedIn’s lofty valuation. In a way, it can be said that LinkedIn is comparatively over-valued because of the high expectations around future earnings growth. Trading at a forward multiple of approximately 81 that is almost twice the industry average, LinkedIn is definitely an expensive affair. Even though LinkedIn has a score of opportunities lined up as it has developed the capability to match social and professional yet the current exorbitant price is not justified.

LinkedIn’s foremost and direct competitor, Facebook, is trading at a forward multiple of around 37 and in comparison to the former, Facebook has an expansive user base that affords it the capability to design a robust advertising portfolio. As for the advocates of LinkedIn’s debt-free Balance Sheet, it is to be remembered that even Facebook is a debt-free company and yet it has a lower trading multiple than LinkedIn.

Takeaway

It is beyond doubt that LinkedIn is working to fix all corners including a robust mobile portfolio, engaging features and a useful product like talent solution, In fact, as per the management, LinkedIn will mainly depend on its talent solutions business for revenue generation (i.e. charging businesses and headhunters that use its site to find job candidates). This segment accounted for 60% of the second quarter revenue, while marketing and premium subscription revenue took in 20% each. LinkedIn has catered to a total of 28,080 corporate solution customers compared to 20,256 in the same quarter a year ago, which shows its presence in almost all the market sectors.

However, the point where LinkedIn scores lower than its peers is its high valuation. In the later part of year 2013, the market punished LinkedIn with a steep correction from the $250 level as the company failed to meet the growth expectations of the Street. Hence, it is prudent to watch LinkedIn from the side-lines for a quarter in the least to see if it can keep up with the momentum generated in the past quarter.

About the author:

Riddhi Kharkia
A practicing Chartered Accountant based out of India. I have keen interest in analyzing tech stocks that are driven by value.

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