Microsoft (MSFT) as dead money is painfully redundant terminology. Microsoft stock is a poster child of our maddening "Lost Decade," which traces its origins back to spring 2000 and NASDAQ 5000. Over the past ten years, Microsoft shares have stalled out at $25. At today's $31, Microsoft shares are approaching the top-end of their $15-$35 decade-long price range of malaise. As recent history would indicate, this near-term uptick will prove little reason to celebrate, as it has only depressed Microsoft's dividend yield. Yes, Microsoft shareholders should be happy to keep pace with a broken down S&P 500 Index and collect dividend checks well into the future. Apple (AAPL) Corporation proves that Microsoft is no Alpha Stock.
Microsoft is Not Alpha
Microsoft is effectively a cash cow utility stock that masquerades as a technology outfit. Microsoft is a $260 billion corporation that butters its bread in a personal computer market that matured more than ten years ago. In other words, Microsoft is a beta stock that will track the S&P 500 as a leading economic indicator. All parties will agree that the S&P 500 and U.S. economy are being propped up by Federal Reserve stimulus. According to The Wall Street Journal, The Federal Reserve Board has revised its economic forecasts downward. Further, Fed Chair Ben Bernanke promises to deploy even more stimulus to shield the U.S. economy from global recession.
For the past decade, we have been forced to operate beneath a New World Order of cheap money and negative real returns. According to Bureau of Economic Analysis data, our financial sector accounts for more than 20 percent of our GDP. To mitigate risks of Black Swan economic collapse, it is therefore imperative that monetary policy promotes this current regime favorable to banks. Today, benchmark interest rates are effectively zero, while the Federal Reserve carries $2.9 trillion on its bloated balance sheet.
The Federal Reserve has merely bought time to back itself into a corner. Lenders will demand higher interest rates amid a slight uptick in inflation. Higher borrowing costs would prove disastrous amid this anemic recovery. Alternatively, the Fed has run out of ammunition to put a stop to prospective recession. Beyond pure dividend plays, shares of U.S. corporations that fail to innovate are either doomed to flat-line or collapse towards zero.
Microsoft's Beta Culture
Microsoft has lost its way as an innovator. The world's largest software corporation retains its iron grip over the industry through updated versions of Windows. Today's Windows 8 product is of little note for Main Street consumers. If anything, the mass market has grown weary of each Windows and PC platform release. Often times, only a technical genius could appreciate Microsoft's minor adjustments made over prior operating systems. For the rest of us, every looming Windows release is but a mere power play to justify an excuse for Joe America to open up his wallet.
Microsoft and the personal computer are commodities.
For alpha returns, Microsoft brass must re-engineer the culture at Redmond to embrace innovation. In the technology arena, first movers become "cool." From there, "cool" translates into pricing power, staggering revenue growth, and fat profit margins. Alternatively, followers within the tech space are dismissed as stodgy operators forced to dump nearly obsolete gadgets on the market at cut rate prices.
In 2006, Apple's devastating "I'm a Mac. I'm a PC" campaign led the catcalls to dress Microsoft up as a nuts-and-bolts technocrat in a tweed suit. Over time, Microsoft has only added gasoline to this fire. Microsoft Bing, Zune, Vista, and its Clippit office assistant icons emerged as forgettable experiences doomed for the virtual trash bin. All of these offerings came in response to fellow tech giants Apple, Google (GOOG), Samsung, and Amazon (AMZN) that mobilize to create share out of nothing. There is no perfect algorithm for innovation, as the iPod, Google search bar, Android phone, and Amazon online shopper would indicate. For real success, technology companies must introduce products that we never thought we needed.
According to Tom Warren, Microsoft lost direction after Steve Ballmer assumed CEO command in January 2000. Reports from various inside sources describe a demoralized army of Microsoft troops who have lost patience and leave "in droves" during critical meetings. It appears that tech geeks would prefer to walk, rather than struggling to innovate beneath Microsoft's ironclad top-down hierarchy.
The Bottom Line
By all measures, Microsoft is a cash flow juggernaut. In 2011, this giant generated $70 billion in revenue over top of $23 billion in net income. In terms of profitability, these figures calculate out at an impressive 33 percent net margin. Last year, the firm generated a staggering $27 billion worth of operating cash flow. Microsoft, of course, spends its cash hoard to diligently pay off debt and present a machine-like balance sheet that rivals that of conservative ExxonMobil (XOM). In 2011, Microsoft spent $18 billion on cash dividends, stock buybacks, and debt retirement. On its balance sheet, Microsoft carries $53 billion in cash equivalents alone, to cover $52 billion worth of liabilities. Microsoft is one of four remaining AAA rated firms where cash is king (Exxon, Johnson and Johnson (JNJ), and Automatic Data Processing (ADP) are the other three AAA corporations).
The stock market, however, is a discounting mechanism that accounts for future growth. Between 2007 and 2011, Microsoft reported $14 billion, $18 billion, $15 billion, $19 billion, and $23 billion in net income. During this time frame, Microsoft is averaging 15 percent annual growth in net income. At $31 per share, Microsoft trades for 11 times earnings and is fairly valued relative to growth. For the sake of comparison, Apple trades at 15 times earnings, while averaging 66 percent annual net income growth during the comparable period. To add further injury to insult, Apple stock has taken an elevator ride from $342 to $600 over the past one year, while Microsoft shares have remained stranded in neutral for one decade.
As a $260 billion corporation, Microsoft must introduce a game-changing product to the marketplace in order to move the needle. To date, Microsoft's strategy revolves around Windows updates, Xbox gaming, and throwing money at sectors where it has already been left behind. For example, the Microsoft - Nokia partnership to market the Lumia Windows phone has proven to be no threat to iPhone and Android dominance over the smartphone sphere. In fact, Nokia (NOK) shares have collapsed toward zero one year after Microsoft executives boarded a plane for Finland and literally handed over briefcases full of cash.
Ironically, Microsoft's staggering early success and consequent conservatism have proven to be undoings for its shareholders. Without a radical change in culture, we are playing eyewitness to the steady and real (inflation adjusted) decline of yet another global empire.