Microsoft’s Nadella Pays Up for LinkedIn to Speed Cloud Push

(Bloomberg) -- Microsoft Corp.’s $26.2 billion purchase of LinkedIn Corp. is the most expensive move so far in Chief Executive Officer Satya Nadella’s push to remake the company for a future when most business computing happens over the Internet.

Yet LinkedIn would increase Microsoft’s annual sales by just 3 percent and there are no immediate plans for integration. LinkedIn will at least initially operate largely independently. That’s asking investors to trust that Nadella has the right vision for the future -- and that he will do a better job than his predecessors of handling acquisitions.

Personal computers are waning, and Microsoft’s traditional desktop software business has suffered. Nadella is trying to tilt the Redmond, Washington-based company toward selling software and services over the Internet, and the LinkedIn deal is a way to accelerate that shift. Microsoft’s two biggest cloud businesses are Azure, which rents computing to companies, and the Office 365 cloud versions of e-mail, collaboration software, word-processing and spreadsheet software.

“I see it as a land grab," said Sid Parakh, a fund manager for Becker Capital Management in Portland. "Cloud applications are where the money should be and there are few cloud assets that operate at scale. Execution is the key.”

"LinkedIn essentially becomes the social fabric across all of Microsoft," Nadella said today on a conference call to discuss the deal.

He cited a few examples of how LinkedIn might work with Microsoft products. He sees LinkedIn profiles being connected to contacts contained in Outlook, Skype, and others. Cortana, Microsoft’s digital assistant, might wake up when you’re on the way to a meeting and tell you about the people who you’re going to encounter for the first time based on professional network information from LinkedIn.

"It’s about really bringing together the professional cloud, which is the core of Microsoft, and the professional network," Nadella said on Bloomberg TV.

Last month, chairman John Thompson questioned whether Microsoft is moving fast enough to anticipate the change in the technology landscape. While the company’s cloud revenue is surging -- Azure product sales have risen more than 100 percent quarterly -- the total business contributed just $5.8 billion of Microsoft’s $93.6 billion in sales in the last fiscal year. Nadella has said that annualized sales from commercial cloud products will reach $20 billion in fiscal 2018, and LinkedIn will be a key component of that.

“Cloud adoption is still moving forward but it hasn’t fully hit yet,” said Shannon Cross, an analyst at Cross Research. “What you’re seeing right now is Microsoft building a lot of assets and investing very heavily in the cloud with the expectation that in a few years people are going to look around and say ‘Wow, look at what they’ve built and it’s very hard to replicate.”

Nadella will also have to improve Microsoft’s post-purchase record: in almost every case, the acquired company has produced lackluster results for the software maker. Microsoft has written off most of its $9.5 billion acquisition of handset maker Nokia and cut many employees who worked on building phones. Microsoft’s 2011 purchase of Internet phone service Skype also hasn’t fulfilled many of the company’s promises of integrating more deeply with its other services.

“They’ve not done a great job of achieving synergies in past transactions,” said Brent Thill, an analyst at UBS AG. He’s also concerned that Microsoft is buying LinkedIn at a time when its target is showing slower growth. “It’s not like it’s slowing a little. It’s materially decelerating.”

Yammer, a social network for businesses that it acquired for $1.2 billion in 2012, also has had mixed results. The 2012 writedown of Internet advertising company aQuantive saw Microsoft’s $6.3 billion purchase in 2007 practically evaporate. The charge totaled $6.2 billion, or 98 percent of the acquisition price.

By saying that LinkedIn will remain a stand-alone company while the two work on joint future products, Nadella is maneuvering to try to prevent the kind of talent exit that may leach the value out of his acquisition. That’s a smart move, given LinkedIn’s 40-percent stock decline this year before today, said Michael Shinnick, a fund manager at Wasatch Advisors Inc.

“I think clarifying that LinkedIn will continue operating as a standalone unit with a strong corporate backer and partner makes a lot of sense and should help LinkedIn to retain key employees after such a sharp stock drop and potential crisis of confidence in the future,” he said.

LinkedIn, based in Mountain View, California, comes with 10,000 employees and expenses of $3.1 billion last year.

For Becker Capital’s Parakh, the real test of whether Nadella’s big buy has paid off won’t come for a couple of years.

“Probably a year or two after closing people are going to be curious about what kind of products have you built with LinkedIn that you couldn’t have without it?” he said.