Microsoft makes the Magic Formula!

[bookie71]

Android is a big hit, Google will continue to basically give away products that MSFT makes money on. That sucks. You make something and people use it. Your major competitor comes in and designs something just as good and gives it away from free. MSFT OS for Phone, MSFT Tablet OS, both will be non starters due to Android. They may exist, but not at a dominating 50% plus market share. Search is slightly protected for Google so they can continue to develop and give away free products. People are also having less and less of a reason to buy Office with Open Office and Google Docs.

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Gee, Isn't that what Microsoft does or did?  What goes around, comes around.   ;D

 

[Kiltacular]

Microsoft appears really cheap to me.

 

They are still fabulously profitable in the core businesses.  They are growing in search.  I use Bing now.  Try finding out a way to turn off Google search history and keep it off...it takes work.  Bing makes it easy.  Microsoft is moving to the forefront of privacy protection as compared to the negative stuff we're seeing from Google and Facebook.  I realize others will disagree but we're talking about the mass market here.

 

Microsoft was crippled by the anti-trust stuff for the last decade.  Now, the focus is off of them.  That took a long time.

 

Microsoft is hated and reviled and it shows in the current share price.  That's what I'm looking for.  An incredibly highly profitable company that's been written off for a long time that is finally cheap.

 

Read this article from Information Week -- it sums things up pretty well:

 

http://www.informationweek.com/news/global-cio/interviews/showArticle.jhtml?articleID=228200263&pgno=1&queryText=dupont&isPrev=

 

Read the presentations and discussions on their Investor Relations website on the cloud, on privacy, etc.

 

According to Fred Hickey, they have recently signed a bunch of deals which involve the "cloud".

 

$100 million deal for NYC -- 120 departments and 100,000 seats (PCs).  A 200,000 employee deal with state of California and a deal with the state of Minnesota for 33,000 employees. 

 

He also says they recently signed an Saas deal with Dupont for 60,000 seats which swaps out an IBM, lotus notes arrangement. 

 

Hickey goes on about how Microsoft is crushing Google in this area so far.  Meanwhile, Google is suing its potential customers.  Another "Information Week" article:

http://www.informationweek.com/news/software/enterpriseapps/showArticle.jhtml?articleID=228100060&itc=ref-true

 

Look, I'm no tech guy.  I haven't previously owned tech stocks.  But, this stock is just too cheap and I think I can understand enough about market dynamics to know that it isn't going to be as easy to just dislodge Microsoft as many people seem to think.

 

A lot of people post about using all sorts of other platforms but I just don't think that is what the average computer user is looking for.  I mean, I could build my own computer for cheaper than I can buy one -- I'd rather get a root canal and I think that almost no "average" consumer wants to build their own computer.  Again, I don't think a discussion makes sense here without a focus on what the average person wants.  They want something they're familiar with, that's fairly cheap, that they don't think will force them to learn something new, that works most of the time, etc. 

 

There seems to be this vitriol still directed at Microsoft -- they're even attacked for not doing bad deals? They're attacked for not squandering their cash, they're attacked for buying back their stock...I keep hearing all this stuff but then I look at the numbers, at the market share and profitability of the core businesses, etc. and what I see is a company with simply massive returns on tangible invested capital that is CHEAP.

 

That's what I'm looking for in an investment -- a dominant company that is hated and cheap enough that a lot of mistakes are priced in.

 

Good thread.

 

 

 

 

[Guest Bronco]

Ericopoly - agreed.  I am staying out of the Microsoft shower.

 

Microsoft is cheap on cash flow.  I will agree with that.  If they paid out a 5% dividend on the current stock price, my guess is the stock will go up.  But unfortunately, they won't.

 

And we all can argue about unix and linux and linas and osx 5.9er.  But the stock won't go past 30.

 

 

 

All joking aside, part of the problem with Microsoft is no one gets excited about their future.  With apple, everyone has a iphone or ipad or ipod (or quite frankly they're not cool).  You can see the future with their products.

 

People are still buying windows for their PC's, but that is nothing new. Same thing with the products at work.  No biggie.

 

So there is no catalyst for this stock, despite the giant cash flow and absolutely terrific fundamentals, business moat, and margin of safety. 

[Kiltacular]

All joking aside, part of the problem with Microsoft is no one gets excited about their future.  With apple, everyone has a iphone or ipad or ipod (or quite frankly they're not cool).  You can see the future with their products.

 

This is exactly what I'm talking about -- you're talking about what's "cool".  If everyone gets an Apple, it won't be cool anymore.  Some subset of people are willing to pay more money for something "cool" -- that ends the moment it isn't cool anymore.  Then, they want something cheap.  

 

I'm not arguing that Microsoft is cool -- I guess I'm arguing the opposite.  I'm arguing that it doesn't have to be to be a good to excellent investment at these prices.

 

I mean, by definition, that average consumer isn't "cool", right?  Microsoft serves the "un-cool" (it's a big market) and I think they appear to still do it well enough that at these prices, the stock is a winner.

[Guest Bronco]

You can be 100% right in your thesis and this could be dead money for another decade.  $25 in 2025.

 

My point was "cool" is a catalyst, b/c it signifies growth.  Apple will reach a slow growth point in the future, but who knows when? 

 

Until then, Apple is still the massive innovators in this sector, no ... in this country,... maybe in this entire world.  Maybe by far.  And as far as I can remember (which may be a couple of days), the market will pay up for growth. 

 

People get excited about Apple, Apple's products, and Apple's future.  People hate Microsoft, their products, and their future.

 

 

[Kiltacular]

You can be 100% right in your thesis and this could be dead money for another decade.  $25 in 2025.

 

My point was "cool" is a catalyst, b/c it signifies growth.  Apple will reach a slow growth point in the future, but who knows when?  

 

I don't agree that I can be 100% right in my thesis and that MSFT could be dead money for the next 10 to 15 years.  I'll either be wrong in my thesis, or Microsoft will not be a $25 stock in 2025.  They are shrinking the sharecount in a big way and they are steadily raising the dividend.  If my thesis is wrong and their profits start shrinking rather than tripling each decade, then they won't be able to shrink the share count and keep raising the dividend.  But, in that case, my thesis would be wrong.  And, there's no doubt it could be -- which is why this dominant monopoly has only piqued my interest now that it is trading at less than 10x earnings (if you back out net cash).

 

[Parsad]

Ballmer should have just beat Buffett and acquired BNSF!  ;D  Really, their excess cash flows need to be put into other businesses.  They will make some further inroads with Kinect, cloud computing, their phone, and continued updates of Windows, but for all intents and purposes, they should be looking at other, more durable businesses.  Businesses where they sustain their economic advantage, rather than come late to the party in areas where it will cost a fortune to take market share away.  Cheers!

[Guest Bronco]

Spectular Kiltacular,

 

In theory, you are probably right.  However, please note that what you think is not possible over the next decade is exactly what happened over the past decade.

 

Increasing profits, revenue, cash flow.

 

Shrinking margin share ($100B in share buybacks).

 

Stagnant share price.

 

Just saying.  Seriously though, I like your thinking, but I agree with Parsad's comments.  No more Zunes please. 

 

And I wish you best of luck. 

 

 

[StubbleJumper]

So I don't see MSFT "going away" the way wordperfect or lotus did, because there is nothing that can come along at the O/S level and just step in and replace it. Unless everybody switches to Mac, and while they've made huge inroads, I don't see them completely taking over windoze "in the cubicle" (I suppose a good summation would be "as long as there are cubicles, there will be microsoft powered desktops")

 

 

You are probably right.  But check out the change in Internet Explorer's market share over the past 5 years.  It decreased from like 90% to 60% market penetration.  Happily enough, Explorer is not a revenue centre for MSFT, but the mass exodus is an interesting occurrence.  I suspect that the office software would be more vulnerable to this than the OS (as I said, for home use, there is little functional difference between Office and OpenOffice), but even that would be bad news.  If the market size grows by 10% per year, but your market penetration declines by 10 percent per year, what happens to your revenue?  As I said, it's a good thing that Explorer was not a revenue centre!

 

MSFT looks like a good investment (which is why I originally bought it), but you really cannot place a lot of value on cashflows beyond 7 or 8 years.

 

SJ

[Kiltacular]

In theory, you are probably right.  However, please note that what you think is not possible over the next decade is exactly what happened over the past decade.

 

Increasing profits, revenue, cash flow.

 

Shrinking margin share ($100B in share buybacks).

 

Stagnant share price.

 

Well, I just want to be clear on this without boring everyone to tears.  The difference between then and now is the price you are paying.  MSFT (along with a slew of other large companies -- in tech and everywhere else) was highly priced a decade ago. 

 

If MSFT's business performs in the next decade as it has in the past decade (but the stock goes nowhere) it will be at a PE of 3 in 10 or 12 years.  That's possible...I concede.  But, it is a lot different than going from a PE of 30 to 10.

 

I like the fact that they're buying back stock -- and in recent years -- not just enough to mop up options.  I like that they're steadily increasing the dividend.  I prefer it to trying too hard to pick the next hot tech area.

 

We all know them as a consumer business but they're huge in the business arena. 

 

I'm not carrying a torch for them.  They look cheap and they're hated.  My last comments on the subject.  I'll let others carry it from here.

[CR]

(Long time techie, recent transplant to a more corporate place.)

 

The arguments that MarkJr and Bronco are putting forward resonate much more strongly. I think its worthwhile to remind ourselves again that MS's dominance comes from its corporate connection. I look around and see everyone typing away on windows computers, using excel docs, and creating powerpoint presentations. This is huge and it should be underlined that this is why their margins are so strong in their core competencies.

 

But you dont invest in a company based on just what it has made in the past. So the why here is predicated on MS continuing its core dominance in the corporate world because it sure does not have a grasp on mostly anything else (regardless of how awesome MS Research is, it has not produced a corresponding increase in quality of tangible products).

 

At the same time that I see my colleagues using their services at the office, they are not using them at home. They have ipads, iphones, macbooks, droids, googletv (one guy bit the bullet), etc. The person responsible for new computer/monitor purchases here uses an iMac as her corporate computer. I easily foresee a time when Microsoft loses their dominance in this world as people more apt with technological change demand products that they also use at home. We havent even seen a non-developmental version of Chrome O/S yet, nor a formidable chinese O/S. Both of those products will likely dramatically change the scene, especially in the big markets of tomorrow (i.e. the 50% extra that someone mentioned above in their 150% market size commentary). In addition, I can see the burgeoning emerging markets totally skip the microsoft phase of development similarly to how china as a whole is mostly skipping the traditional gas station setup and investing much more in an electric infrastructure.

 

But coming back to today, I understand that this is a play on their value. I have not studied them in-depth in regards to an investment, but its tough to imagine that you would really want to be in a play where the value thesis is that the core competencies stay at a high margin when there's so many forces suggesting that they just ... wont. 

[rmitz]

Global finance - Real quick analysis

 

2003 - 2005   18b

2006 19b

2007 27b

2008 12b

2009 9b

2010 11b

 

Close to $100B.  I wonder what MSFT's market cap would look like if they were buying Apple's stock with all that cash.

 

I know you're kidding, but if they used that 18B in 2003, that would have been more than AAPL's market cap at the time. :)

[Guest Bronco]

Spectular - since you are strong in your beliefs, here may be a play for you.  Again, I get the logic and can't argue your points per se.  Just not for me.

 

But for you, the Jan 2013 (that's right - you have 2 years) $25 calls trade at $4.35.

 

The current price is $26.25.  So if the stock price goes up a meeeesly 6% per year, you will be in the money on the calls.  If the stock goes up 10% per year over the next 2 years, your options will return something like 20% per year.  Awesome!

 

 

 

 

[Guest Bronco]

Rmitz - so I guess in a theortical world Msft's market cap would be double what it is today and probably then some.  They probably would have enough cash from its Apple subsidiary and its own operations (the 100 billion they didn't waste on buybacks less the amount to buy apple) to buy Google as well.

 

Ya know, in theory, there is no difference in theory and practice.

[rmitz]

- Mac OSX is BSD under the hood, not linux, but both linux and *BSD are basically unix. Anybody running anything serious on the net uses unix/linux/bsd servers, this is unlikely to change - Microsoft never cracked the server platforms - you can't run web apps or SAAS on something that needs to be rebooted every other day. And now with BSD on the desktop (via Apple OSX) and *nix in the mobiles and tablets (iphiones, android) - the full spectrum of net connected devices is shifted more toward the same thing the servers run: *nix or *bsd.

(I know, I will draw hatred from the M$ systems types out there for saying this, there are a few)

 

I don't really care for MS products (and don't really use them anymore) but I have to say that a competent sysadmin running windows servers doesn't need to randomly reboot nearly as often as you say.  While I personally don't feel it's as stable as various UNIX variants, I have routinely seen multi-year uptimes with modern windows servers, which is OK in a standalone, protected environment.  

[rmitz]

This is exactly what I'm talking about -- you're talking about what's "cool".  If everyone gets an Apple, it won't be cool anymore.  Some subset of people are willing to pay more money for something "cool" -- that ends the moment it isn't cool anymore.  Then, they want something cheap.  

 

I don't buy Apple products because they're cool.  I buy them because they simply work better; I can get my stuff done quicker, more reliably, and more easily.  The hardware is easier to deal with. Mac OS X being UNIX under the hood is also a bonus for me. Cool is just a small bonus after all that; if I could run OSX trivially and legally on non-apple hardware, I would.  

[Myth465]

Bronco, a wise man would just stay out of the shower.  

 

(overvalued stock == shower)

 

A court might suggest that you consented.

 

 

Eric is right, I have had a Treasurer tell me it doesnt matter what price you pay on a buyback because you are returning capital to shareholders. I thought it was idiotic but he was right.

 

If you think the stock is overpriced you would sell. It doesnt reduce the overvaluation but its the same as a div.

[Kiltacular]

Spectular - since you are strong in your beliefs, here may be a play for you.  Again, I get the logic and can't argue your points per se.  Just not for me.

 

But for you, the Jan 2013 (that's right - you have 2 years) $25 calls trade at $4.35.

 

The current price is $26.25.  So if the stock price goes up a meeeesly 6% per year, you will be in the money on the calls.  If the stock goes up 10% per year over the next 2 years, your options will return something like 20% per year.  Awesome!

 

Is this directed at me?

[Guest Bronco]

Myth - I am not getting into this debate again here, but by definition you are giving cash to ex-shareholders and nothing to long-term shareholders.  I know you are smart and get this, but I hate the expression "giving back to shareholders".

 

BTW - my treasurer thinks they are a waste.

 

We all know there are fewer shares after the buyback, so existing shareholders get a larger stake in a smaller amount of net assets.  

 

If I was a CEO and my Treasurer said that, I would throw his dumb ass out on the street BTW.

[Parsad]

I don't buy Apple products because they're cool.  I buy them because they simply work better; I can get my stuff done quicker, more reliably, and more easily.  The hardware is easier to deal with. Mac OS X being UNIX under the hood is also a bonus for me. Cool is just a small bonus after all that; if I could run OSX trivially and legally on non-apple hardware, I would.

 

I think there are two separate "cult-like" groups that buy Apple products:  One group buys them because they DO truly work better than Microsoft products, as well as most of the competition.  The other buys it because the products are cooler, more stylish and make people's lives better.  

 

I have to say, my two previous phones that operated with Windows and Office mobile, sucked compared to my iPhone.  When it first came out, I thought that the competition would catch up to the easy to use interface, and that cheaper competing products would become available.  I was wrong!  Over five years later and the competition still can't get the same feel, so about six months ago I finally relented and bought an iPhone.  It's fantastic!  Head and shoulders above the competition still.  Syncing, updates...so easy.  And guess what...it hasn't crashed, nor have I had to reboot or do a hard reset.  Finally something that works without ever crashing!  Cheers!  

[Myth465]

Myth - I am not getting into this debate again here, but by definition you are giving cash to ex-shareholders and nothing to long-term shareholders.  I know you are smart and get this, but I hate the expression "giving back to shareholders".

 

BTW - my treasurer thinks they are a waste.

 

We all know there are fewer shares after the buyback, so existing shareholders get a larger stake in a smaller amount of net assets.  

 

If I was a CEO and my Treasurer said that, I would throw his dumb ass out on the street BTW.

 

The long term shareholder gets a bigger piece of the piece. Either way the outcome is the same. The Treasurer would be fired by either you or I. Lol

 

I also hate the shareholder talk. Its usually done by non shareholder CEOs.

[ERICOPOLY]

We all know there are fewer shares after the buyback, so existing shareholders get a larger stake in a smaller amount of net assets.  

 

Buyback or dividend -- either way there is a smaller amount of net assets.  That just leaves the "larger stake" part -- so sell enough of it to bring your ownership level back to where it was before the buyback.

 

Your treasurer doesn't get it.

[Guest Bronco]

I'm not going to swim in the kiddie pool on this one

[bargainman]

Ballmer should have just beat Buffett and acquired BNSF!   ;D  Really, their excess cash flows need to be put into other businesses.  They will make some further inroads with Kinect, cloud computing, their phone, and continued updates of Windows, but for all intents and purposes, they should be looking at other, more durable businesses.  Businesses where they sustain their economic advantage, rather than come late to the party in areas where it will cost a fortune to take market share away.  Cheers!

 

I do sometimes wonder, with Bill Gates as Director of BRK, why they don't take this sort of action more seriously.  Surely Gates gets value investing and allocation of capital to durable businesses after being so close to Buffett.. why not apply this model to MSFT?

[Parsad]

I do sometimes wonder, with Bill Gates as Director of BRK, why they don't take this sort of action more seriously.  Surely Gates gets value investing and allocation of capital to durable businesses after being so close to Buffett.. why not apply this model to MSFT?

 

I really don't know.  I wish all these guys on CNBC, Charlie Rose, etc would ask that question when they interview them together.  If the Gates Foundation's goal is to provide the most amount of money to future programs for the next 30 years, then would it not make sense to put that capital to work in businesses that will be around for the next 30 years?  That goal would not be contrary to the interests of Microsoft shareholders.  The present bang for the buck may be a bit less, but the long-term bang would be considerably more by moving excess operating capital to non-technology related businesses with durable competitive advantages.  Cheers!