High school history class taught me two things; first, teachers have eyes in the back of their heads and second, prolific empires simply do not last. Countless armies have been assembled in relatively short periods of time under great leaders, but they have not been sustainable. Basically, preserving an empire not only necessitates enormous resources and managerial capacity, but it is also a mammoth challenge to grow it further.
Many companies come to mind when attempting to draw a parallel between having been an empire and being on the verge of a decline. But not one currently fits the criteria as boldly as Microsoft (MSFT). The English historian Edward Gibbon, author of The Decline and Fall of the Roman Empire, made this concept part of the framework of the English language, but he was not the first to speculate on why and when the empire collapsed.
In this article I attempt to put to reason why Microsoft is on the decline. An argument can be made that at this point Microsoft cannot be saved. But it’s fitting and applies to the laws of economics. It speaks to the terms that we have all come to appreciate-- “survival of the fittest” or “it’s a dog-eat-dog world.” In a capitalistic society empires come and empires go-- the only difference is their length of reign.
We’ve all heard the stories and know about the evolution of the personal computer. IBM is credited for having transitioned our culture and lives from the pre-computer way of doing business to mainframes. Then came Microsoft, who transitioned the world from mainframes to PCs. Now it appears that other companies will pick up the legacy and transition the world to the post-PC era. But just as Microsoft's rise left little room for IBM to grow in its traditional businesses, so too is the rise of the post-PC leader likely to leave Microsoft as a legacy company.
We have all seen the "death of the PC" ads on nearly every investment website and financial blog; warning us of the impending death of the PC, and effectively the death of the computer operating system. According to a forecast from the International Data Corporation (IDC), 2011 will be the year of the tablets and smartphones. Smartphone sales are expected to rise 22% to 330 million sold next year, as more people make the transition away from feature phones. Tablets will also hit 42 million sales in 2011- with the market being flooded by Apple’s (AAPL) competitors looking to outsell the iPad. But Apple will remain in the lead, whereas low-cost tablets could do well in emerging markets.
The report ends with a remarkable statement- “The PC-centric era is over.” In fact, the IDC predicts that within the next 18 months, non-PC devices running software will outsell PCs. It’s unimaginable living these days without having a dependency of a desktop computer; yet we can see evidence that it is already happening.
The start of the fall
It has been almost a year since Apple overtook Microsoft as the world's largest tech company. I honestly admit, if I would have had to bet my life on that event, I would have bet that it would never have happened. Apple is now bigger than Microsoft. Let that marinate for a moment, and allow me to remind you that if you go back to 1997, when Steve Jobs rejoined Apple, the company was nearly bankrupt.
It reached a deal with Microsoft in which the software giant actually bought Apple stock and also invested a considerable amount of resources into multimedia development, opened the Apple retail store, and made moves that would ultimately lead toward creation of the iPod and iPhone. There were reasons why Microsoft sought to “help” a chief rival at that time. Some even suspected a more Machiavellian purpose, but regardless of the reason, for it to now result in Microsoft looking up to Apple in the market cap category is baffling.
I think it is both suitable and logical to pose the question -- What happened to Microsoft? Not only is this a popular question but also a very sensitive one to the many Microsoft fans; myself included. Many investors are left wondering can the company repair its problems and do what my history teacher claimed to be impossible; restore an empire. For that to happen (in my opinion) there have to be some changes.
In an article recently published by Rocco Pendola, he talks about his frustrations and disappointment with Microsoft. He said “My biggest issue, however, surrounds how Microsoft appears to blatantly rip off the competition. For instance, Windows Vista was an unmitigated disaster. Windows 7, however, is the complete opposite of Vista, but some of the new features smack of computing on a Mac. For starters, you can drag and drop a lot more. It's slicker. More intuitive. Much easier to use. It's clearly a Mac rip-off. And now, oddly, IE9 looks, feels, and acts a whole lot like Google's Chrome.”
Based on the reader responses to the author’s software experience, that testimonial was not appreciated. Rocco took a lot of flak for his candor, but to be fair, he did not say anything that PC users everywhere have neither said nor thought of, at the very least. In fact, it is precisely that type of widespread criticism that has contributed to the declining popularity of Microsoft, and conversely, the rise in that of Apple.
Microsoft is no stranger to criticism. When you are going to dish it out, it has to start at the top. In January of 2000, Microsoft’s stock reached an all time high of $118 when current CEO, Steve Ballmer was placed at the helm.
Since reaching the high point of the stock, the company appeared to have lost its competitive spirit, or whatever it once had that helped create its empire. It was arguably at that point where the empire started to decline, and we can point to certain fundamental attacks to which it suffered.
- Microsoft poorly underestimated the vitality of the search market. The company allowed Google (GOOG) to dominate the industry and now has introduced Bing to supposedly compete in the search space.
- MSFT was outsmarted in previously strong areas of its business such as browsers, where Mozilla seemingly came out of nowhere. I suppose you can say MSFT was “outfoxed.”
- Worst of all, though, has been the company's approach to both its core business and its biggest future opportunity.
- The Vista launch was less than stellar. Some have said it was a complete disaster.
- The company has been heavily criticized for choosing to focus its low-growth legacy businesses.
- Microsoft’s mobile strategy has been a complete mystery. Once a competent rival to Palm, it has--for the most part-- gone nowhere in terms of the most dynamic segment of the consumer technology market.
- During the course of Steve Ballmer’s leadership, it aborted various projects that could have generated the creativity and produced "must-have" items.
Restoring the reign
I don’t know if restoring the empire should be the immediate focus. You can look at Microsoft today and see some similarities with IBM; that is to say, Microsoft is now more of a services company. I feel in order for the company to realize growth, it will need to spin-off its businesses and allow for investors to have realistic expectations from each new segmented entity. The value of the segmented pieces could ultimately exceed that of the current business.
Playing video games this weekend with my son made me realize that Microsoft still has growth potential. Microsoft came out with a game add-on for the Xbox 360 called the kinect, which allows gamers to play without any controllers. In essence, your body is the controller. The device responds to how you move; whether you need to kick, run, jump or swing, you only need to make the motion. I have to admit, it had me captivated. Microsoft can still innovate, imagine that.
Disclosure: I am long MSFT.