Valuentum Exclusive Analysis for the Discerning Investor

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Image Shown: ByteDance may be forced to sell the US operations of TikTok, and there are plenty of potential suitors out there with deep pockets.

By Callum Turcan

On August 27, Walmart Inc (WMT) announced it was in discussions with Microsoft Corporation (MSFT) about acquiring the US operations of popular short-video-oriented social firm TikTok from Beijing-based ByteDance. Given that Microsoft noted back on August 2 it was continuing discussions concerning a potential deal for TikTok’s US, Australian, New Zealand and Canadian operations, it is likely Walmart would be interested in acquiring an economic interest in those assets as well. Here is what Walmart had to say in its brief statement (emphasis added):

The way TikTok has integrated e-commerce and advertising capabilities in other markets is a clear benefit to creators and users in those markets. We believe a potential relationship with TikTok U.S. in partnership with Microsoft could add this key functionality and provide Walmart with an important way for us to reach and serve omnichannel customers as well as grow our third-party marketplace and advertising businesses. We are confident that a Walmart and Microsoft partnership would meet both the expectations of U.S. TikTok users while satisfying the concerns of U.S. government regulators.

Additionally, a consortium led by Oracle Corporation (ORCL) has reportedly made a $20.0 billion bid for TikTok according to The Wrap, with $10.0 billion made up in cash and $10.0 billion of Oracle stock along with a provision that would see Oracle give ByteDance 50% of the annual profits from TikTok over a two-year period. Please note that none of this is for certain, though we are intrigued by the news. Oracle is reportedly joined by General Atlantic and Sequoia Capital, two venture capital firms that are also investors in ByteDance.

Background

Here is a brief overview of how we arrived here. TikTok is a popular short video sharing app that has approximately 100 million monthly active users in the US, though various US officials and politicians see TikTok as a major national security threat. There are worries that TikTok could send data on its users (particularly US users) back to authorities in China. Late last year, the US Army banned its soldiers from using TikTok on government-owned phones.

President Trump recently issued an executive order that seeks to compel TikTok to find a buyer for its US operations, particularly a US buyer, or the company would be cut off from doing business with US companies and US people. As an aside, the statement that announced the executive order noted TikTok had been downloaded over 175 million times in the US. That order was followed up a bit later by another order that gave TikTok 90 days to find a buyer.

Given that we are in uncharted waters here, this series of events prompted a flurry of potential acquisition activity with many big companies initially interested in a deal. It is not often that a major up-and-coming social media giant with meaningful digital advertising and e-commerce upside is being forced to sell key parts of its operations due to orders from the US federal government. TikTok’s outlook is supported by powerful secular growth tailwinds and based on the financial performance of its peers, like Facebook Inc (FB), TikTok’s US operations may be incredibly lucrative (low capital expenditure requirements, high margins, strong revenue growth outlook, high quality cash flow profile).

Potential Suitors

Reportedly, Softbank Group Corp (SFTBY) was considering putting a deal together that would have included Walmart and Alphabet Inc (GOOG) (GOOGL), though that clearly did not pan out. Antitrust concerns regarding Alphabet’s dominant position in the digital advertising space likely played a role. Furthermore, Twitter Inc (TWTR) reportedly held preliminary talks concerning a bid for TikTok according to the WSJ, though nothing has materialized on that front. Beyond antitrust concerns, valuation is another potential hurdle.

Microsoft has an immense net cash position and combined with Walmart’s strong free cash flows, the duo could handle the potential multi-billion price tag with relative ease (TikTok’s US operations are potentially worth up to $30.0 billion, at least in the eyes of ByteDance, though it does not appear its potential suitors are interested in paying that much for just those assets). As of June 30, 2020, Microsoft had $136.5 billion in total cash, cash equivalents, and short-term investments on hand versus $3.7 billion in short-term debt and $59.6 billion in long-term debt. Walmart had a net debt load as of July 31, 2020, though we like the retailer’s strong free cash flows and ability to put up solid same-store sales growth during the pandemic (highlighting the resilience of Walmart’s business model and recent gains it has made in the e-commerce space). Back in 2018, Walmart acquired a controlling stake in FlipKart, an e-commerce company in India, highlighting its interest in going digital.

Pivoting to Oracle, the tech giant had $43.1 billion in total cash, cash equivalents, and current marketable securities on hand versus $2.4 billion in short-term debt and $69.2 billion in long-term debt as of May 31, 2020. It is likely that Oracle’s net debt load played a big role in prompting the firm to utilize equity to fund a portion of its reported bid for TikTok’s US operations, and additionally, some of the cash component may be funded by its venture capital partners.

Either the Oracle-led consortium or the Microsoft/Walmart duo would likely win approval from the White House, in our view, though there are plenty of other obstacles to consider here. For instance, ByteDance may decide to not sell its US TikTok operations and instead fight the White House in the US court system. TikTok has already filed a lawsuit against the Trump Administration. Given the geopolitical and national security situation, ByteDance may not have much room to run on that front.

Concluding Thoughts

For Microsoft/Walmart, there are some potential synergies. Microsoft already has operations in the digital advertising space, and Walmart has been utilizing Microsoft’s cloud computing solutions to help digitalize its operations. A five-year agreement forming a strategic partnership between Microsoft and Walmart was announced back in July 2018. Walmart has dipped its toes into the digital advertising space in recent years, though it remains a small player in this industry compared to giants like Alphabet and Facebook. Combining data generated from Walmart’s customers with Microsoft’s prowess in the digital advertising and tech space overall with data generated from TikTok’s user base could lead to meaningful revenue generating opportunities, with an eye towards targeted digital advertising and e-commerce operations.

For Oracle and its venture capital partners, such a move represents Oracle’s way of pushing farther away from its legacy operations and moving deeper into markets supported by secular growth tailwinds. Its venture capital partners ensure that their investment in ByteDance does not take a huge hit from TikTok’s US operations getting shut down (a likely situation if US companies and US people are not able to legally conduct business with the app), while also maintaining a stake in that upside (should the venture capital firms retain an equity stake in TikTok’s US and other assets that may potentially get divested).

We are keeping a close eye on this development and will have more to say should a deal materialize.

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Related: AAPL, FB, SFTBY, WMT, SOCL, MILN

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Callum Turcan does not own shares in any of the securities mentioned above. Apple Inc (AAPL), Alphabet Inc (GOOG) Class C shares, Facebook Inc (FB), and Microsoft Corporation (MSFT) are all included in Valuentum’s simulated Best Ideas Newsletter portfolio. Apple Inc, Microsoft Corporation, and Oracle Corporation (ORCL) are all included in Valuentum’s simulated Dividend Growth Newsletter portfolio. Some of the other companies written about in this article may be included in Valuentum's simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.