What If LinkedIn Operated As Efficiently As Facebook?

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While LinkedIn’s (NASDAQ:LNKD) topline growth has remained impressive, its high expenses have been a matter of concern. The company’s R&D (research and development) and SG&A (selling, general and administrative) expenses eat up almost 70% of its revenues. The company is spending a lot on marketing and has grown its sales team overseas to fuel expansion. The high marketing expenses result from LinkedIn spending a large amount on offline sales channel which is necessary to strike long-term corporate deals. LinkedIn has revolutionized the recruitment industry with its unique platform that shares a lot of similarities with Facebook. However, Facebook has done better in terms of reigning its expenses without affecting its topline growth. If LinkedIn could somehow manage to do the same, it could add 30% to its value.

Our price estimate for LinkedIn stands at $134, implying a discount of little over 15% to the market price.

See our complete analysis for LinkedIn

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Facebook’s Expenses Are Low In Comparison To Its Revenues

Like Google (NASDAQ:GOOG), Facebook has been extremely successful in monetizing its platform. The company saw 82% growth in ad revenue during the first quarter of 2014. This was primarily driven by an increase of 118% in average ad pricing, which eclipsed Q4 2013’s ad pricing growth of 92%. [1] This can be attributed to the growing proportion of feed-based ads. The company has been moving advertisements from banners to news feeds as feed-based ads have much higher engagement and therefore command a higher pricing. Mobile has been the primary focus of this shift in ad strategy and instead of launching new ad products, Facebook seems to be focusing on improving the current ones. More specific audience targeting, higher engagement and better click through rates can give Facebook strong leverage in negotiating ad prices with advertisers. The company mentioned a couple of successful cases to project how Facebook is becoming increasingly important for advertisers due to its high ROI (return on investment).

As a result, its key expenses items such as R&D and SG&A are relatively low, resulting in EBITDA margin (earnings before interest, taxes, depreciation and amortization) hovering over 55%. While R&D expenses as a percentage of revenue stood at 9.6% in 2013, SG&A expenses were around 18.4%. This is in stark contrast to the figures for LinkedIn despite it being less dependent on advertising than Facebook.

LinkedIn Could Ad 30% To Its Value By Operating As Efficiently As Facebook

LinkedIn’s R&D expenses as a percentage of revenue stood at 21.8% in 2013, which is more than twice the figure for Facebook. Similarly, its SG&A expenses as a percentage of revenue totaled more than 50%, almost three times that for Facebook. While we expect both figures to decline going forward, we believe that LinkedIn’s efficiency will not be able to reach Facebook’s levels in the foreseeable future. However, if LinkedIn somehow manages to do so over the course of next six years, it will imply roughly 30% upside to our current $134 price estimate for the company. In other words, LinkedIn would be $175 stock if its margins were to approach that of Facebook by the end of our forecast period.

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Notes:
  1. Facebook’s Q1 2014 Earnings Transcript []