Microsoft, the Bearish Case

Microsoft has become one of those “Someone else” companies. Someone else buys their products; someone else will always have to buy Microsoft technologies, etc. I have a general view that such companies in technology, which become part of the landscape, are among the best short-selling opportunities out there. They pull in value investors — ooooh, Microsoft is cheap! — and then, suddenly, the business begins falling apart, a process that accelerates until the value trap becomes obvious.

The trouble, as always, is finding a catalyst and timing the thing. I have been thinking a lot about it because I’ve been aching for some time to be short Microsoft. They are spending heavily, with meager results, meanwhile doing some poor acquisitions, with more ahead, and a general sense that growth, having slowed, will never come back. On other other hand, there is no sign that cash flow is tapering off, with the company still increasing monstrous numbers to the bottom line.

So, what might some collective signs & catalysts be?

  • More poor acquisitions. I wasn’t a fan of the Skype deal, but a Yahoo deal would likely make things worse, so that rumored deal is one to watch.
  • Any deceleration in Windows license sales.
  • Inability to increase presence in mobile OS market in next year, which will be a crucial time.
  • Inability to increase presence in cloud services market in next year.
  • Significant improvements in Google Docs, which would further eat into Microsoft Office.

Other thoughts? I’m mostly trying to convince myself here, but I’m open to other ideas, including the idea that I have Microsoft dead wrong and better days are immediately ahead. I think that is a loony idea, but I also have a hard time believing that it is going to continue to flat line much longer.

Related posts:

  1. Microsoft/Yahoo: Why is Microsoft Slow-Playing a Strong Hand?
  2. Facebook aside, More on the Microsoft Buy Case
  3. Microsoft/Yahoo: Why is Microsoft Slow-Playing Its Hand, Part II
  4. Facebook and the Microsoft Curse
  5. Microsoft + Facebook = Microbook?

Comments

  1. This flat line can go on for a while… Rather than go short early (and get burned waiting for judgement day), I've been thinking it is easier to pile on the selling once there has been a break and the world wakes up (e.g. Yellow Pages Group).

  2. I was onsite at a top-tier financial very recently and they love Win 7 and are rolling it out everywhere. Say it has solved all the problems of Vista/XP.

  3. MisterZ says:

    Microsoft Office is an industrial strength application that's worth every penny to business customers. Windows 8 is rumored to be very good and able to bridge the functionality gap between PCs and Tablets. The cost savings from moving to the Cloud are not about the cost of the software itself, so the fact that Google Docs is free should not be a compelling advantage. By the way, I spent a lot of time using Google Docs before I finally gave up and realized how much I appreciate MS Office.

    I think rumors of Microsoft's demise have been greatly exaggerated.

    • creichow says:

      Also, if you check Microsoft's latest integration of Office Web Apps to Hotmail, it seems to me that they are exactly on par with Google in the online/cloud space. However, MSFT seems to not actively market this to save the "cash cow" of Office sales.

  4. wally says:

    It seems to me that skimmed the cream off the richest market. Most future expansion of computer use will come in countries that cannot afford the incredible markups that Microsoft has lived on in the US. They do have cash; they could flatline for a long time… but I don't see where they can grow.

  5. @rustlem says:

    i've interviewed a whole bunch of enterprise microsoft "engineers" recently. Each of them have seen the writing on the wall and are jumping into any adjacent technology. When I ask them, they say they reckon on 5 years until they're unemployable.

  6. robichaux says:

    The flat line in stock pricing for MSFT has gone on a really long time– and yet they keep putting up huge quarterly revenue numbers with solid growth. I'd agree that you should watch for stupid acquisitions, but I think the long-term trend for Office (pace MisterZ) and Windows is solid and that MS will continue posting big numbers each quarter for the foreseeable future. Not that it will affect their stock price, of course, unless they figure out how to hire Steve Jobs as CEO.

  7. wpw says:

    I bought some MSFT in February 2009 when its cash was amost equal to its market cap. I didnt hang around long as I made a nice profit and could not see what future it has. Office and Windows generate huge profits; gaming breaks even; and everything else goes down the drain. It spends a huge amount on R&D just to basically keep up. But unless Office and Windows sales go down it could just keep drifting along. And if they decide to turn it into a high dividend stock, which I think they should, shorts will get burned.

  8. dennis says:

    too much cash to be hurt. Things that go bust usually operate on razor thin margins without a cash hoard.

  9. kiers says:

    Catalyst: wait till the first Windoze phone (with Jokia) comes a cropper! End of story IMHO.

    They already bear the weight of Ubuntu and other Linuxes, and Android to boot. and Software as a service from the cloud. and the Anti Trust Lobby globally.

  10. seattler0cks says:

    I wouldn't be too quick to write this company off. There was a time when IBM was also seen as an also ran, and Apple was considered walking dead. The problem with Microsoft IMO is management. They have vast resources and some pretty solid products, and they aren't going away anytime soon. They have the time and means, in the right hands, to make the necessary adjustments. And this is coming from someone who has detested the company over the years because of the junk they've put out.

  11. Danny L says:

    The Windows OS and Office sales are a very stable baseline that won't disappear as far as I can see. What are the alternatives? There's no compelling reason to buy a Mac other than image and design, because Windows 7 has solved all of the problems with XP/Vista (seriously). I've had 7 on 3 home computer for about 2 years, none of them has ever crashed. The only other "competitor" to Windows is Linux, which blows. I use it at work, it's fine for scientific environments, but it's way too unpolished for widespread consumer use. Google has that Chrome thing, but as far as I can tell it's not taking off.

    There are no effective competitors to Office. Open Office and Google docs just stink. This seems like an area ripe for competition, but no one has managed a credible alternative yet, and people have been trying for a decade.

    It would be nice if they stopped throwing their extra cash at crappy companies, but the point is that they DO have cash to burn without endangering their core operations. I just don't see a scenario where MSFT tanks.

  12. creichow says:

    Great post, Paul.

    It's clear that MSFT needs to break out of the mold in order to build more value long-term. You clearly state where they get the majority of their revenues now, but the real opportunity are in their new platforms. Realistically, I would expect Microsoft to launch a singular (or very similar) platform across PCs, tablets/slates, and phones by the end of 2012. By enabling developers to create apps that would work and scale from consumpution devices like phones all the way up to productivity devices like PCs, I think they will have a strategy to grow licensing revenue in the Windows division.

    I would say the long-term vision around Skype is really just to build out their unfied communications strategy. One of the reasons customers go with Microsoft is the Exchange/Outlook functionality, and I think they see Lync (with Skype soon built in) as a long-term winner in that space, perhaps even natively rolled into the Exchange/Outlook suite at some point.

    I am definitely being overly optimistic about Microsoft's prospects here, but I think the overarching strategy is sound.

    • Paul Kedrosky says:

      Thanks. Assuming that they don't obtain those gains on new platforms by the end of 2012, would that change your (optimistic) opinion?

      • creichow says:

        This product generation is one of the most important transitions for MS, and the first time they've had real competition since the late 80s/early 90s.

        If Microsoft is not successful in 2012, they will probably be in a state of best case flat line, but more likely decline until 2014.

  13. Rob Lee says:

    Paul

    MSFT is a diversified company and used heavily in the enterprise. The question I have is for Google. Office docs is a money loser and has no hope in the enterprise. Microsoft owns the space OS, Office (productivity) and if you live away from San Francisco you will know that its cloud offering, XBOX and server offering is gaining momentum rapidly. Wondering when you will stop pandering to GOOG and start using your PHD to do some sensible analysis.

  14. @timjones17 says:

    Microsoft will be heavily used in the mass consumer PC and enterprise markets- those are the Someone else, for the foreseeable future, since it doesn't have much competition in those areas. Tens of millions of Windows PC are sold each quarter, 85 million in 2Q11. Office is unmatched in its capabilities; there truly is no significant improvements in Google Docs that makes it come close to challenging Office. The Windows 7 blockbuster looks to be followed by another blockbuster, Windows 8, whose tablet and PC versatility comes just at the right time of mass tablet adoption. In mobile, while Google's Android dominates the phone, the masses expect larger forms such as tablets and laptops to be more robust, an expectation that is associated with a mobile-optimized Windows 8.

  15. obront says:

    his is really funny … in the 90's you were uber-bearish on apple (publicly offering to eat your newspaper column if ipod/apple even survived) and i wrote you to challenge that conventional point of view. now again, i am on the exact other side of your views on MSFT.

    my 2012 catalysts are three things that could radically change MSFT's public image from bumbler to player:(1) innovative new Kinect apps on Xbox and Win8
    (2) 10% smartphone share, would be shocking improvement for a product that is virtually invisible at this point (Gartner predicts MSFT will be the #2 mobile phone OS by 2015, ahead of iOS and RIM)
    (3) tablets shipping that get decent reviews and integrate well with the desktop OS that most people are most familiar with. geeks have been impressed so far with the well designed programming tools and Metro interface, and developer intentions are running high which i think is a good sign)

    personally i'm still a mac guy, but this stock setup is one of the best i have ever seen as the change in public perception is very likely to move the PE from crisis-expected 8 to say 12 which with increasing earnings as a force multiplier my 1 year target is high $30's. but the key to the investment thesis is that even if they stumble on these 3 things, it is hard to imagine multiples declining much below 8 while they offer a 3% dividend. it would take a crash in OS/Office sales happening right now, which i find hard to imagine as they seem to have held strong during the last few years. so do you actually expect earnings to be lower in 2012 during the launch of Win8 in order to predict your lower stock price?

    • Paul Kedrosky says:

      Totally agree. There are things that could turn the tables on Microsoft, and I'd cheerfully be proven wrong. I just don't think the value buyers have it right — there is a value trap here.And yes, I had Apple wrong in the late 90s for a while, but a) that's more than a decade ago, and b) I figured out quickly that I was wrong and I changed.

  16. obront says:

    thanks for the reply. i give you credit for being open-minded on apple, and i expect one of us will have an epiphany in 2012 and capitulate on this issue … this new forrester study makes me wonder if it could be me ;-)
    http://www.electronista.com/articles/11/11/29/for