Or should it be Digital Non-Film?
Not so long ago Eastman Kodak was one of the strongest companies in North America and a favorite of investors, such as the legendary Peter Lynch. But then everything started to go wrong culminating in the company seeking Chapter 11 bankruptcy protection in January 2012.
Kodak’s expertise was in making photographic film (holding a 90% market share in 1976). But the advent of digital cameras hit the photography market like a whirlwind, and traditional cameras became virtually obsolete in the space of a few years.
To help avoid these problems, I have used recruitment agencies. They charge a hefty percentage of a successful candidate’s salary and allow only a short period of time during which the fee is refundable.
But it usually takes a few months for the new employee to be ‘found out,’ leaving the unlucky employer (in this case, me) facing an expensive fee, while still having a problem with an unsuitable employee.
A few months ago I was looking to employ a sales person. I had been reading about Linkedin Corporation (NYSE:LNKD) on the Fool site, so I decided to give it a try.
I was able to place a job advert for around 120 pounds (about 180 U.S. Dollars). I received a wide range of replies from candidates with great C.V.’s and I was able to manage the recruitment process myself.
Don’t get me wrong, I can still choose the wrong person, but now I have a wider range of choice to choose from and the recruitment fee is a tiny fraction of an agency fee.
So the question crossed my mind: why would anybody consider using a recruitment agency? At that point I bought shares in LinkedIn.
Let’s consider the numbers. Mark Mahaney of Citigroup has estimated the size of the online jobs recruitment market to be $3 billion. LinkedIn had revenue of $243 million in 2010, $522 million in 2011, and recently reported revenue of $972 million in 2012. At face value, continued growth at this rate would give Linkedin Corporation (NYSE:LNKD) a 100% market share within 2 years! But I think we are looking at a different story. According to a research report by Koncept Analytics, the worldwide recruitment market in total is estimated to reach $369 billion in 2014. LinkedIn did not come to my attention as a replacement for another online service; it replaced a traditional recruitment agency. So it is not the paltry $3 billion that LinkedIn is going for; it has the entire, traditional worldwide recruitment market of $369 billion in its sights. The recent growth seems to indicate that LinkedIn is already encroaching into the traditional agency market, as this provides a plausible explanation as to how it could so quickly capture such a large share of a market ostensibly limited to just $3 billion.
But why should Linkedin Corporation (NYSE:LNKD) be a better choice than other online providers? Monster Worldwide, Inc. (NYSE:MWW) is an established player in the industry that has been operating for more than ten years. From a personal point of view, I never considered it as a solution. I had heard of these online ‘job boards,’ but I did not think they would be likely to provide the sort of candidates and service I was looking for. In retrospect this may have been a mistake; but I have come to that point of view after being converted to online recruiting through my experience with LinkedIn. I would suspect that many other managers accustomed to the traditional recruiting process may share my skepticism.
Instead of approaching the market as a recruitment solution, LinkedIn promoted itself as the professional network, with the proposition that every professional person would have a profile on LinkedIn, enabling them to exchange information, ideas and opportunities – a strategy requiring no small degree of chutzpah. But their confidence has paid off to the extent that my son at university, with no short term plans to begin employment, recently joined because he was told he ‘had to be on it’ if he ‘wanted to get on’. To an employer, gaining access to the entire population of professional people is far more appealing than advertising on a job board (to leverage this LinkedIn allow you to access candidates not actively looking to move). And the figures support this point of view. While LinkedIn nearly doubled its revenue last year, Monster’s fell from $1,040 million to $890 million As if to rub salt into the wound, this makes LinkedIn the new ‘Top Dog’ by revenue.
Another perceived threat to LinkedIn’s position is Facebook Inc (NASDAQ:FB). Launched last year, Facebook’s job board certainly has access to a wide range of talent from Facebook’s 1 billion plus user base. Many say that work and play do not mix, especially so when it comes to the recruitment process. I do not believe that professional people will want to present themselves to potential employers on the same platform where they may share amusing photographs with their friends displaying what they did after drinking too much at a party. By sheer weight of numbers, Facebook may carve out a business at the lower end of the job market, where presenting a professional persona is less important. At the lucrative, high-end of the market, employees and employers will prefer to stay on the focused, professional platform: LinkedIn.
To understand the potential of LinkedIn, it helps to look at what has been achieved by other disruptive companies – companies that ‘change the rules’ overnight. In the 1990’s Dell Inc. (NASDAQ:DELL) Computer disrupted a complacent, high-margin personal computer industry with its low-margin, direct sale model. $10,000 invested in Dell at the start of the decade would have grown to $8.9 million at the close of the decade. In more recent years Amazon.com, Inc. (NASDAQ:AMZN) has made huge growth disrupting the retail industry. Intuitive Surgical, Inc. (NASDAQ:ISRG) has made similar gains disrupting the medical equipment industry. Investors who bought these two companies when they were first recommended by David Gardner’s Stock Advisor and Rule Breaker services have made gains of 1,631% and 1,188% respectively.
As more and more businesses discover that recruiting with LinkedIn is not only a better process than using a traditional agency, but also massively cheaper, the outlook for the these agencies starts to look as appealing as it recently was for film-based cameras. Few anticipated the pace of change when it came.
What does it mean for the investor? Now might be a good time to re-evaluate any investments you have in recruitment companies. Those at the low end that evade LinkedIn’s high-end assault might have short respite if Facebook succeeds at the low end.
Linkedin Corporation (NYSE:LNKD) looks to have a huge growth runway in front of it as a business, but what about the stock? Let’s roll some numbers, and keep it simple. If the company can grow the current turnover of just under $1 billion to $10 billion in the next five years and make a net margin of 10%, equating to $1 billion profit, then that would translate to a p/e of 17.5 at the current market cap of $17.5 billion (by keeping the market cap constant we assume no change in share price). So, holding our other assumptions constant, for a doubling of share price in 5 years we get a P/E of 35, or for a trebling we get a P/E of 52. Of course any or all of these assumptions could be wildly out: you might think that a lower turnover with a higher retained margin would be more likely, but I have purposefully tried to keep the numbers simple. Make a judgment call and decide. In any event, some would argue that the recent jump in share price makes this a good time to watch and wait for a better valuation.
My decision to buy was not made by studying numbers. LinkedIn solved my recruitment problem, and, immediately, I recognized a company that could be hugely disruptive to an existing industry. Such opportunities are rare, so I decided to pull the trigger and ask questions later. Luckily for me, the decision was vindicated by the subsequent earnings and price movement.
It will be interesting to see how this one develops…
The article Why LinkedIn Is Like Digital Film originally appeared on Fool.com and is written by Ian Richards.
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