Tobin’s q and LinkedIn (LNKD)

James Tobin was a Nobel Prize-winning economics professor at Yale.  One of the things he’s famous for is his formulation of the “q” ratio, which is:   total market value of a publicly traded company’s outstanding stock ÷ the replacement value of the company’s net assets.

Sometimes q is taken to mean:  per share stock price ÷ book value per share.  But that’s not right.  A company may have a brand name or powerful distribution network that don’t show up in book value (Warren Buffett’s key investment insight).  Or it may have potentially lucrative mineral leases that appear on the books only as raw land, because they haven’t been fully explored.  Or, in today’s world, a firm may have created big software research/development assets whose only effect on accounting values comes from the subtraction of associated salaries from earnings.

Tobin understood that sometimes a company has assets that are hidden from public view.  As a result, a company’s true q is likely best known–or solely known–to its top management.

Tobin’s advice to managers is this:  if your company q > 1, meaning the stock is worth more than the value of the company’s assets, sell stock.  If your q < 1, buy stock back in.  Never do the reverse.

There’s a certain paradox to q.  If, out of the blue, a company launches a stock offering whose proceeds will find no obvious near-term use, then top management, which knows the firm the best, must think the present q is a lot bigger than 1.  If so, no rational person should want to buy the shares being offered.

…which brings us to LNKD, which has recently announced a $1 billion stock offering.  Year-to-date, the stock is up 123% vs, an 18% gain for the S&P.  The trailing PE, which is probably not relevant, is 730x.

My guess is that the offering will be heavily oversubscribed, despite the implicit warning that the offering itself entails.

It will be interesting to see how LNKD shares fare over the coming months.

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