Acquisition is About Arbitrage, and Kara Swisher is Right
Posted by Bob Warfield on June 8, 2008
Kara has a thought provoking post called, “Nightmare on Microsoft Street“. She basically asks what will Microsoft do if Google starts buying up all the web properties that Microsoft hopes to acquire or partner with. With Yahoo blocked, at least for the time being, what’s Microsoft’s next step to gaining some web dominance?
Whether they plan to build success organically, by growing existing properties and creating new products, or whether they plan to acquire others (Kara mentions Digg, for example), a Google acquisition binge would wreak havoc.
Why can’t Microsoft successfully compete with Google for these acquisitions? With respect to competing with Google, they certainly have the chance where the acquisition would thrust Google into anti-trust waters. Acquire as many search and advertising companies as you like, Mr. Ballmer. Of course with Yahoo bridling at the thought of it, and nobody else anywhere in sight, this is not necessarily an interesting category.
In the end, Microsoft’s problem will be that Acquisition is about Arbitrage. The Wikipedia defines arbitrage as follows:
“arbitrage is the practice of taking advantage of a price differential between two or more markets“
What does this have to do with Google and Microsoft fighting over potential acquisitions? The two markets are the respective stocks these two companies have. Let’s look at it this way. These companies would be buying future earnings and sales. If those purchase translate immediately into multiples according to the multiples they enjoy today, and the company was purchased at a lower multiple, the acquirer comes out ahead.
Microsoft trades at a healthy 4.55 times sales. So every $1 in the acquired company is theoretically worth $4.55. Pretty profitable business, these acquisitions, no? Unfortunately for the Redmond Boys, the GOOG can turn that $1 into $10.17. To over simplify things, they can afford to pay twice as much as Microsoft and still come out ahead.
Larry is going gangbusters with his acquisition strategy over at Oracle. $1 acquired can be $5.68 at Oracle’s multiple. But, in the unlikely event they find themselves bidding against Google, the GOOG can afford to pay a lot more. BTW, if Oracle wants to get Webby, it too can outbid Microsoft, but only a little bit.
This business of arbitrage came up recently in a discussion with the Enterprise Irregulars. There was much back and forth about why Oracle didn’t acquire Salesforce.com. Here the economics are backwards. Oracle gets $5.68 for $1 of sales while Mr Benioff is getting $10.65. Wow! Salesforce gets more than Google!
M&A is a tenuous business. Any time an acquirer makes its intentions known, there is a window where every potential other acquirer stops what it is doing and decides whether to make a play for the acquiree. Consider it a feeding frenzy. Those that have the most valuable currency, the Googles and the Salesforces, can afford to pay more than the others, and they’ll take the prize if they want it bad enough.
Consider Oracle’s famous back and forths in this area with SAP. Eventually it made SAP rather gunshy about acquisition contests with Oracle. Oracle was characteristically very blunt and to the point. They told SAP they were crazy people and they’d pay more than anyone else for an acquisition. But it wasn’t so crazy. Larry enjoys that $5.68 multiple while SAP is at $3.90.
Which reminds me, SAP is below Microsoft’s multiple and therefore the arbitrage works there. Oracle can’t really buy them without anti-trust issues. What about that play?
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