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Microsoft's Acquisition of Nuance - What Does it Say About Big Tech Acquisition Strategies?

Apr 15, 2021 1:58 PM 6 min read

Microsoft Corp. Has agreed to acquire Nuance Communications, a Massachusetts-based tech firm which specialises in AI-enabled speech technology. At a purchase price of $56 per share, the deal is valued at $19.7bn making it the second-biggest acquisition for Microsoft after LinkedIn and implies premium valuation metrics of close to 90x EV/LTM EBITDA and 13.3x EV/LTM Sales.

The deal is making waves for being a sign of Microsoft's growing ambition to tap into the healthtech industry by integrating Nuance's voice-recognition technology with its cloud services. 

Translation: The firms are joining forces to develop an AI software that captures patient discussions and integrates them into electronic health records, for starters. 

In the long run, the aim is to digitise health services in a way that doctors are freed from note-taking and depend on the AI health records to make better suggestions for patient care. Nuance brings the speech technology. Microsoft brings clinical intelligence and cloud services. 

In this piece, we delve into the finer points of this particular deal and look closely at the enterprising impacts of Microsoft's acquisitions vis-a-vis other Big Tech companies.


All About Nuance

Nuance has complex origins. It began as a spinoff by SRI International (previously known as Stanford Research Institute). SRI is a non-profit research and innovation centre which helped many companies launch publicly to make their technologies available in the marketplace. 

One among them was Nuance which went public in 2002 as a provider of speech, biometric, automotive, mobile and imaging solutions. It merged with ScanSoft in 2005 to enter the commercial speech applicsation buiness. Today, it has a number of products that devise speech recognition, chatbots and natural language processing, especially in healthcare and other sectors. It has 6,000 employees in 27 different countries. 

Most notable among them is the Dragon software that uses deep learning to transcribe speech (say, a doctor's) and improves its accuracy over time to match the user's voice. This technology has been licensed by Nuance in many applications, including Apple's digital assistant Siri

The USP of Dragon lies in its transcription accuracy. As digital transcription gains momentum, be it in medical consultations, board meetings or university lectures, the opportunity and market for its use expand tremendously. More so, if you consider the uptick in remote work created as a result of the pandemic. This is what makes Nuance an attractive venture as it provides enterprise AI assistance at the healthcare point of delivery.


Microsoft's Nuanced Approach 

Nuance has essentially integrated itself with core health care systems owing to its long-standing technological partnerships in the sector. It's currently used in 77% of US hospitals and claims to have 10,000 healthcare customers worldwide. One of its elite healthtech applications (Dragon Medical One) used to identify medical terminology is reportedly used by more than half a million doctors globally. 

To be fair, the acquisition wasn't unforeseen completely given the existing partnership between both the companies since 2019. They have been working closely on improving Microsoft cloud for the healthcare industry by combining it with Nuance's solutions and expertise. The acquisition is simply an extension of that partnership and is expected to double Microsoft's total addressable market in the healthcare space and push it close to $500bn. 

Let's talk about financials. As per Microsoft's statement, the company expects the acquisition to have less than 1% dilutive impact on the June 2022 fiscal year results and accretive to fiscal 2023 non-GAAP earnings. 

Nuance had a net income of $91m on a revenue of $1.48bn in the fiscal year ending September 30th. Two-thirds of this revenue came from healthcare, which also experienced a 37% YoY growth in FY20. Given the high growth, it is somewhat understandable why Nuance warranted a premium valuation. A $56 per share implies a 23% premium on the closing price of Nuance as on April 9th, and implying a triple digit trailing P/E multiple. 


Another Trophy on the Microsoft Wall?

Microsoft has had a tumultuous experience with acquisitions. At one point it was branded as the proverbial penny wise and pound foolish company for quick buys and even quicker devaluation of those buys once they came under its control. 

Some of its most controversial acquisitions like aQuantive and Nokia happened under former CEO Ballmer who was long blamed for playing catch-up with the rest of his industry peers. Microsoft's acquisition strategy was branded as more reactive than proactive as the company sought to enter into markets which were moving faster than the acquisitions. The markets would phase out and leave the acquired businesses in the lurch, compelling layoffs and write downs worth billions. 

After Satya Nadella's rise to the helm, however, things have begun to look up. He has averaged at least 12 acquisitions per year compared to Ballmer's 10. What's different though is the forward-thinking market approach of Nadella who intends to use these acquisitions to get the company early into a market or create a new one. And in the process, deploy aggressive and recurring revenue models. 

Major acquisitions to Nadella's credit like Minecraft, LinkedIn and Github, are reflective of this changed course. By virtue of being a developer-first company, acquisitions like these have helped administer his vision of creating a developing community and a business that runs by giving independent operation rights to platforms (LinkedIn and Minecraft, for instance).

When Github was acquired for $7.5bn, it certainly fared a lot in exchange for a company which generates minimal revenue. Today, the seamless integration of Github into the Azure system has overturned prior apprehensions and has even pitted it alongside Amazon's AWS. 

And Wall Street clearly approves of Microsoft’s playbook. Since Satya Nadella took over on February 4th 2014, Microsoft’s share price has grown by a staggering 533%. Here is the stock price performance over the same period for Microsoft, Apple, Google, Facebook and the broader S&P 500 index as shown in the image above.

Similarly, the acquisition of Zenimax was a visionary capitalisation on the cloud-faring migration of gaming technology witnessed globally as we move past consoles. The most significant strategy in focus for Microsoft, however, has been the adoption of AI functionality. The latest purchase of Nuance is a testimony to that fact and healthcare, fittingly so, has been its most urgent venture, given the necessity for better technological solutions in a pandemic-stricken world. Microsoft has lately entrenched itself in healthcare by partnering with the Israel-based healthtech firm Genoox and the UnitedHealth Group in 2020, jointly developing a return-to-work protocol in the latter. 


Strategic Variation vis-a-vis Big Tech 

No doubt, Microsoft faces increasing competition from other cloud providers like Amazon, Google and enterprise software providers like IBM, Oracle, SAP, Salesforce etc. Speaking strictly from a Big Tech bracket, however, Microsoft has made the most number of acquisitions (as of 2020), most of them being unicorns. 

The acquisition model of Microsoft is also starkly different from the "Alphabet model" that was popularised by Google to indicate its operation over Youtube. It emphasises relative post-purchase independence coupled with an overarching supervision of its capital and management. 

In any case, Microsoft seems more keen on enterprise expansion which can be viewed as a clever capitalisation of a situation wherein its biggest rivals are under increasing regulatory scrutiny. The talks pertaining to its latest purchases like Zenimax, Discord and Github seem to have happened simultaneously as that of Nuance. And let's not forget how close Microsoft came to acquiring TikTok's US operations last year. 

Only Amazon has come close to spending this much on acquisitions (c. $5bn) among the Big Five companies mentioned above. In any case, while the four of them are away, it seems like Microsoft is ready to play and add more trophies to its basket, benefitting from the regulatory blindspot and bargain hunting on the back of an economic slowdown.


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