From the Greenlight Capital annual letter,
In 2006 we compared Microsoft to A-Rod, which was a compliment at the time. In 2013, the comparison is still apt, but it is no longer a compliment.
The famous stock picker implied that Microsoft Corporation (NASDAQ:MSFT)’s glory days were over and that the Redmond, Washington tech giant was in decline. Should investors follow Einhorn’s advice and sell?
The CEO
Steve Ballmer has been Microsoft Corporation (NASDAQ:MSFT)‘s CEO since 2000. Microsoft shares have languished since 2000, and it is not hard to see why.
Ballmer made several severe mistakes. First, he failed to acquire Google Inc (NASDAQ:GOOG) when they offered to sell themselves for five billion dollars. Second, Ballmer failed to acquire Facebook, which is now the world’s most popular social network. Third, he missed the entire post-PC era and famously laughed at the Apple Inc. (NASDAQ:AAPL) iPhone.
Instead of focusing on the mobile shift in the computing system market, Microsoft Corporation (NASDAQ:MSFT) spent too many resources on Apple iPod competitor Zune and Google Inc (NASDAQ:GOOG) search competitor Bing, which ended up being also-rans in their perspective sectors. Microsoft Corporation (NASDAQ:MSFT) also acquired AQuantative, which it had to write down 5 years later by over $6.2 billion, and acquired Skype for $8.5 billion, which is now under assault from mobile chatting apps such as Whatsapp.
Secular Decline
As a consequence of missing those trends, Microsoft Corporation (NASDAQ:MSFT) is in secular decline and has lost its monopoly on computing platforms to Android and Apple Inc. (NASDAQ:AAPL).
Source: Business Insider
According to market research firm IDC, worldwide PC shipments were down 13.9% in first quarter of 2013 Year Over Year. IDC attributed the decline to the increasing popularity of mobile tablets which the research firm predicted would surpass total worldwide PC shipments by 2015. Since a significant part of Microsoft’s profit comes from PC’s, Microsoft’s profit will eventually suffer.
The Benefiters
As a result of Microsoft’s numerous missteps, Google Inc (NASDAQ:GOOG) and Apple Inc. (NASDAQ:AAPL) have managed to eclipse Microsoft in market capitalization.
Google was just a billion dollar company twelve years ago–now its market capitalization is larger than Microsoft’s. It has the world’s most popular search engine, with an 82% global market share versus Microsoft Bing’s 5.8%. It also owns Android, which now has a 67% market share of tablet operating systems versus Apple’s 28% and Microsoft’s 4.5%. Perhaps the best Google trait is its ability to take risks and innovate. Back in 2006, when YouTube was under heavy pressure from music labels for copyright infringement, Google was willing to buy the risky streaming video site for $1.65 billion. The move has paid off now that YouTube has more than 1 billion monthly unique visitors and is the third most popular site on the web. Google also has its own version of the famous Bell Labs with its Google X division. Some of Google X products include Google Glass, a wearable computing device that Google should launch next year, and driverless cars, which does exactly what it sounds like they do.
Apple has benefited even more from Microsoft Corporation (NASDAQ:MSFT)‘s missteps. With that aforementioned $500 iPhone, Apple has become the world’s most valuable tech company with a market capitalization of over $400 billion. Apple is the world’s most valuable brand and commands industry leading profit margin of over 22%. Its divisions churn out over $40 billion in free cash flow every year. Like Google, Apple also has some great new products ahead with iTV and iWatch, which analysts expect the company to launch late this year or early next year.
Conclusion
All is not lost, and even though Microsoft’s business is in secular decline, one can still make a case that Microsoft is still a buy, just as one can make a case that Alex Rodriguez can still play somewhere in major league baseball. Microsoft still dominates the enterprise productivity market with Microsoft Office. Microsoft Server and Windows Azure have bright futures, as more and more businesses utilize the cloud. Microsoft will get another shot at reworking Windows with the next version of the desktop operating system, Windows Blue. Microsoft shares are trading at only 12 times this year’s earnings and 10 times next year’s. Analysts expect Microsoft to have a next 5 year EPS growth of 8.63%, and have a consensus price target of $34.79. Microsoft Corporation (NASDAQ:MSFT) is also constantly buying back shares and pays shareholders a 3% dividend.
Despite the positives, until Microsoft can capture the seismic shifts in tech like it used to, Microsoft will likely underperform the more innovative Google and Apple, just as it did for the last decade.
The article Is Microsoft Really Corporate America’s Alex Rodriguez? originally appeared on Fool.com and is written by Jason Bond.
Jason Bond has no position in any stocks mentioned. The Motley Fool recommends Apple and Google. The Motley Fool owns shares of Apple, Google, and Microsoft. Jason is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.
