Previously, I discussed what I thought were "Two Big Problems" at Microsoft (MSFT). The first problem was that Microsoft was a company that had been very successful in the past and had achieved a sustainable competitive advantage through network effects in its business platform that allowed it to consistently earn a return on equity in excess of 15 percent. Everything else basically was peripheral to this and provided a little excitement here and a little more excitement there but was not the foundation for Microsoft's "cash" machine. The Justice Department understood this in trying to determine the extent of Microsoft's "monopoly" position in the marketplace.
The second problem, as I see it, is the strong role that Mr. Gates still plays within the company. Although he has major interests elsewhere, the Bill and Melinda Gates Foundation and traveling the world, he seems to still need to have his finger in the important things at Microsoft. He has moved on … but he has not moved on.
In this post, I would like to look at two more issues that surround the Microsoft situation. And, let me say right at the start, the two issues I would like to discuss here are not separate from the two problems discussed in the earlier post. It is just that these two issues look at things from a different perspective.
First, I believe that in most cases, the market is correct. In this case, I am talking about the stock market.
I don't know how many times, in my business career, I have heard people argue that "the market is wrong!" Generally, people who have a vested interest in the market being wrong take this position. For example, I have done company turnarounds and most every former top executive that was replaced claimed until he was released that the stock market didn't understand the company he was running. In all cases, the market turned out to be right.
The market can be wrong on a company valuation. My advice, however, is to do exhaustive research to justify that the market is correct. Then, only after you have done this research and find strong reasons that the market is incorrect … then, you change your opinion.
This hypothesis has to be corrected for times when the market as a whole is over inflated, say, due to a Federal Reserve created credit bubble or wild speculation.
In Microsoft's case, over the past ten years, a moving average of Microsoft's stock price has varied between about $21 per share to about $28 per share. I know that the current price is a bit above the $28, but it is within the narrow range that the stock price has varied over this time period.
Given the swings in the stock market over the last ten years, this is a very narrow band for Microsoft to trade in. In essence, the judgment of the market, over this time period, I believe is … Microsoft is going nowhere fast.
The company has a sustainable competitive advantage through the platform that it has established. As a consequence, the company is a cash cow that is generating a return on equity in excess of 15 percent, but, there is little to celebrate beyond this monopoly position. The market conclusion: the management of Microsoft is taking the company nowhere it hasn't been.
If the market result was for a relatively short period of time … then maybe you could look for other reasons of why the company stock was not performing. But, we are talking about a ten year period!
The second issue has surfaced in the past week or so. Some have brought up the fact that Steve Jobs came back to Apple (AAPL) and turned it around to make it a "world beater" once again. Couldn't Bill Gates do the same at Microsoft?
My answer here is that the situation is entirely different. Mr. Gates has focused elsewhere and is doing, I think, tremendous work. Mr. Gates does not have the singular drive and intensity with respect to the computer industry that he once had. I don't really believe that he can regain this drive and intensity with respect to Microsoft again.
Mr. Jobs did not really leave the industry when he left Apple. Thus, his return to Apple was just a re-application of his drive and intensity to the Apple company he had previously left. Mr. Gates is not Mr. Jobs.
I don't believe that Mr. Gates just wants to put all his attention into running Microsoft again. And, therein lies the problem. Mr. Gates is going to have to let go. As long as he continues to hold on, it is my belief that the market will not provide us with a significant, sustainable breakout from the trading range of the previous ten years.
Thus, I believe that the market evaluation of Microsoft is basically correct and I believe that this judgment will not change until the leadership situation at Microsoft changes.