Microsoft (MSFT -0.79%) and LinkedIn surprised investors this Monday when it was reported that Microsoft would acquire the social network for professionals in a $26.2 billion cash deal. Does the pricey acquisition, which represents Microsoft's largest in history, actually make sense?
What follows is a list of the reasons to be skeptical about the deal.
1. Many acquisitions don't pan out
The two companies have already made their case for the acquisition. And both companies' boards of directors voted unanimously in its favor. But acquisitions don't always turn out as planned -- and Microsoft knows this first hand.
Consider Microsoft's 2014 $7.9 billion acquisition of handset-maker Nokia. Management predicted the acquisition would propel the company's smartphone-market share from about 1% to 15%. Of course, this never happened. Microsoft ended up losing about $10 billion on this deal when including both restructuring charges and related writedowns.
Then there's Microsoft's 2007 acquisition of aQuantive, an online advertising business. In theory, it sounded great: Microsoft wanted to catch up with Alphabet's Google. But Google remains the dominant search engine, nearly unmoved by competition -- and Microsoft gained nothing from the acquisition, eventually taking a writedown of $6.2 billion -- just short of the $6.3 billion the software giant paid for the company.
Put simply, acquisitions can go horribly wrong.
2. Microsoft is paying a no-joke premium
LinkedIn shareholders are probably thrilled with the Microsoft-LinkedIn deal. Microsoft is paying $26.2 billion, or $196 per share. This per-share price represents an incredible 50% premium to the stock's price before the deal was announced. In other words, Microsoft believes LinkedIn is worth nearly $9 billion more than the market does.
Sure, thanks to a huge sell-off of LinkedIn shares earlier this year after the company offered up lower-than-expected guidance for revenue and non-GAAP EPS in 2016, Microsoft is still paying a price well-below LinkedIn stock's 52-week high of $259. Nevertheless, a 50% premium to LinkedIn's stock price last week highlights a great chasm between what investors think about LinkedIn and what Microsoft thinks.
Conservatism is key to a good acquisition. Given its inherent risk, the acquirer should exercise prudence by paying a conservative price. Apple (AAPL 0.49%) -- a master of fiduciary responsibility when it comes to acquisitions -- is a great example. Indeed, the sums Apple pays to acquire companies are so small, that even if many of the tech giant's acquisitions failed, investors wouldn't even notice.
With the exception of its acquisition of Beats Electronics for $3 billion, which is the company's largest acquisition ever, Apple simply doesn't make big acquisitions. And it could be argued that even the Apple-Beats deal is small -- at least when viewed in the context of the tech giant's $534 billion market capitalization.
3. The proposed synergies are questionable
Beyond the price tag Microsoft is paying for LinkedIn, there are other reasons to be concerned: mainly, the proposed synergies to be gained by having LinkedIn under Microsoft's ownership are questionable.
For instance, Microsoft wants to highlight professionals' profiles within apps like Outlook, Skype, and Office. While this could be beneficial, it would have probably already been in LinkedIn's best interest to cooperate in such integration without having to be acquired, as it's a win-win move for both companies.
Similarly, the proposed integration of LinkedIn profile information with Microsoft's voice assistant Cortana also could have potentially been achieved in a win-win arrangement by the two companies.
The skeptics may be proven wrong
Despite the cases against Microsoft's LinkedIn acquisition, there are also reasons it could work out. Most notably, LinkedIn is a promising business in its own right, strengthened by a network effect -- a competitive advantage Facebook is proving can be incredibly powerful in the world of social networks. Further, the two companies share common ground when it comes to customer-relationship management, making this an area where the two entities may be better together than they are separate.
But there's no way around the fact that the higher price that a given asset sells for, the greater risk there is to it not paying off for the buyer. One thing is certain: After offering up an astounding $26.2 billion, the pressure is on for the acquisition to work out. Can LinkedIn deliver?
Investors should keep in mind that, though the deal is expected to close by the end of the year, problems could still prevent a transaction. The deal is still subject to shareholder approval, and must satisfy all regulatory approvals and other customer closing conditions.