Microsoft's acquisition of GitHub for $7.5 billion fully illustrates the differences in the definition of value between Silicon Valley and the rest of the world. GitHub was acquired at a price close to 30 times the annual recurring income (a multiple of the astronomical level). In contrast, in another one of the most expensive technology industry deals ever considered to be in history, Microsoft acquired professional social network LinkedIn for $26 billion in 2016, which is 7.2 times the annual revenue of the latter.
What's the difference? The answer is to unlock a common misconception about how Silicon Valley operates and where these astronomical values come from.
In Silicon Valley, there are basically two ways to create shareholder value: finance and strategy. Financial value is the study of business schools and stock markets. It relates to multiples of income or earnings, sales growth, profitability, and management theory. It is about the ability to grow and prosper as an independent company.
When we discuss how oil prices will affect Exxon's stock price, we intuitively know the direct link between what the company does (drilling oil) and oil prices, and what these two things are. What is the relevance of the stock price? Similarly, if you run a local dry cleaner, the value of this business depends on how many customers you have, how much they spend, the cost of providing services, and growth expectations.
On the other hand, strategic value has little to do with these things, and is related to how the company's products and/or market position help or hinder the ability of another company (usually a big company) to succeed. Strategic value is not achieved by the ability of a company to make money independently, but by its ability to create (or in some cases protect) profits for others.
This difference explains exactly why a company with only five employees but no revenue can sell for $1 billion, while a company with 500 employees and $100 million in revenue is far less valuable. Although the most famous Silicon Valley success stories, such as Apple, Facebook, and Google, are excellent examples of financial value, the vast majority of startup company success stories are not about establishing an IPO (pre-IPO) and listing. Companies that continue to grow (and this is extremely difficult); they are about creating some kind of value for others.
In other words, Microsoft did not pay $7.5 billion for GitHub’s earning power (its financial value). It's for access to codebase products that use GitHub every dayDevelopmentPeople (the company's strategic value) and pay the bill - so that they can be directed to Microsoft's development environment, where is the real place to make money.
Let's take a look at several famous cases of strategic value. In 2006, Google bought YouTube for a price of $1.6 billion (at the time it was staggering). YouTube's business is extremely unprofitable and its illegal uploadvideoIt also seems to bring endless trouble. Why do you want to do this crazy deal? Not to mention paying a huge price for this. This is not because YouTube has the ability to make money in the future. After 10 years, it is still unclear whether YouTube will achieve profitability. This sale is entirely because YouTube has a huge strategic value to Google (this acquisition allows it to stop competitors from invading its lucrative search business). Google's acquisition of YouTube's deal - in another 10 years, and billions of dollars in further investment, the video platform may still not be profitable - is now generally considered one of the most astute deals ever.
In another case, Sun Microsystems spent billions of dollars to acquire MySQL in 2007. MySQL's main product is a free, open sourcedatabase, very easy to use, it is for almost all existingwebsiteProvide back-end functionality. The company’s revenue is extremely low, and its overall business model (its financial value) is speculative at best — however, there are many bidders willing to pay big prices for it.
The value of MySQL is strategic, not financial. For Oracle, IBM and Microsoft, its strategic value is related to protecting their profitable database business from a free product. This free product can provide 80% (and still growing) capabilities of expensive solutions for those companies. Although this is an example of a good strategic value, it turns out that it is not even the most important point. Sun was in serious trouble at the time because its expensive hardware products were quickly being much cheaper than ordinary Linux.serverEncroach on food. Sun needs to address this threat and it needs to be resolved quickly. For Sun, the acquisition of MySQL allowed it to create proprietary advantages for its database, allowing Sun/MySQL-based websites to run up to 10 times faster than competing solutions. This is really strategic when Sun faces life and death (and is a major factor in Oracle's acquisition of Sun 6 months later).
Although Microsoft’s acquisition of GitHub is a heavy news story, it is just one of many examples of the basic values of the most successful high-tech startups. In other words, a startup company's business of self-sufficiency and continuous development is an example, not a general phenomenon. It is strategic value rather than financial value that produces the best result. If you reorient your thinking around this point of view, it will be much easier to understand the crazy world of Silicon Valley.