3 Software Giants To Buy, 2 To Avoid

by: Investment Underground

By Robert Gordon

To run efficiently, businesses and economies of the world rely upon software and consulting giants. As one time most of what are today's largest software companies were high flying growth companies. But with great size, meaningful growth becomes harder to maintain, and several of these issues now pay respectable dividends and have stock buyback programs. I will analyze five large software companies, looking at growth along with current valuations.

International Business Machines Corp. (NYSE:IBM)

IBM is the country's 18th largest company, and seventh most profitable. Its stock was recently trading at a little over $190 per share, near the high end of its 52 week range of from $194.90 to $143.73. It has a market capitalization of $226 billion, and a P/E of 15.1. It pays a current quarterly dividend of $0.75 per share, for an annual yield of 1.6%. In its third quarter of 2011, IBM reported earnings of $3.19 per share, up 13% from the year earlier quarter.

Warren Buffett recently purchased 64 million shares of IBM common stock. What was he looking at to invest so heavily in this company? For much of the past twenty years, IBM has been de-emphasizing its hardware and personal computer business, and making investments in growing its software and consultancy business. The two most obvious steps in this process were IBM's sale of its personal computer business to Lenovo Group LTD. (OTCPK:LNVGY) in 2005, and its purchase of analytics software maker SPSS, Inc. in 2010. As it is, IBM is usually defined as the world's third largest technology company and second largest software company.

The focus taken off hardware and onto proprietary software and consulting has resulted in enhanced margins and productivity. Profit margins have risen since the year 2000 from the 8% - 9% range, to the 14% - 15% today, for instance. Earlier this year, IBM raised its dividend for the 16th consecutive year. The company is also engaged in a long term, share buyback program. Since 1995 when shares outstanding approached 2.2 billion, shares outstanding are scheduled to fall below 1.2 billion this year.

IBM has stated its goal to earn $20 per share by 2015. Given its recent growth, expanding margins and continuing repurchase of its stock, that is entirely possible. The stock is near its all-time high right now, and I am not sure I see any meaningful pullbacks ahead. There is never a bad time to invest in one of America's great companies.


SAP is a German software giant which trades in the form of ADR's on the NYSE. SAP was recently trading at almost $59. Its 52 week range is from $68.39 to $47.39. It has a market capitalization of $70 billion, and a P/E of 19.6. It has a history of making just one dividend payment per year, during the second quarter. The 2011 payment was 0.60 of a Euro, the value of which denominated in dollars is about $0.80.

Despite a very difficult European economy, during the third quarter of 2011 SAP's revenues increased by 14% to 3.4 billion euro. Earnings increased year to year a whopping 150%, to 1.05 euro per share. SAP is the world's largest producer of business software. That position was recently solidified by SAP's $3.4 billion purchase of Success Factors (NYSE:SFSF), which will close early in 2012.

Despite the excellent earnings, and solid balance sheet of SAP, I cannot endorse purchase at this time of any European company. There is just too much continuing macroeconomic uncertainty.

Microsoft Corporation (NASDAQ:MSFT)

MSFT is the largest software manufacturer. Its stock was recently trading a little under $26 per share. Its narrow 52 week range is from $29.46 to $23.65, and its market capitalization is about $217 billion, and its P/E is 9.3. It pays a quarterly dividend of $0.20 per share for an annual yield of 3.1%.

Its fiscal years end June 30th, so in the first quarter of its 2012, it reported sales increased about 7% year over year to $17.4 billion. Its profits were up 10%, to $0.68 per share.

Looking at MSFT's chart, it is a strange case. It seems the more the company earns, the lower its P/E gets, so that the stock never seems to go anywhere. In the years from about 1997 to 2002, MSFT was trading at a P/E of over 30. Over the last ten years, the P/E has steadily trended down to its current level. So, the stock price is almost where at was after MSFT's last stock split in 2003, despite earnings fiscal in 2011 nearly three times higher per share than in 2003.

There are numerous press and analyst ratings that favor investing in MSFT. But no matter how many Windows 8 systems or X Box systems it sells; or that it has stellar gross, operating and profit margins of 77%, 39%, and 33%, respectively, if Wall Street continues to shun the shares, MSFT will continue to go nowhere. MFST is a great American success story. I wish the stock market rewarded shareholders during the past ten years, but it has not. At today’s price, MFST is a definite buy, because with ever increasing profits, it just cannot stay in the $25 price range forever.

Oracle Corporation (NYSE:ORCL)

Oracle is a leading worldwide software concern, although it has a mainframe presence now with its acquisition of Sun Microsystems in 2010. ORCL was recently trading at about $31 per share. Its 52 week range is from $36.50 to $24.72. It has a market capitalization of $160 billion and a P/E of 18. It started paying a dividend for the first time in 2010. The quarterly amount is now $0.06, for an annual yield of 0.8%.

ORCL's fiscal year ends May 31. So in its first quarter of 2012, ORCL's revenues were up about 11% year to year to $8.4 billion. Most of its product line increased their sales, with the noticeable exception of the relatively generic server business it acquired in the Sun purchase. Earnings were up 14%, to $0.48 per share.

Larry Ellison, the driving force and 22% owner of ORCL, does not know failure. The Sun purchase, with its Java and Solaris software units, will dovetail into ORCL's profile. Even after the Sun purchase, ORCL still has over $31 billion in cash, and only $14.8 billion in debt. Its profit margins are on a par with MSFT. It has an mean analyst rating of 1.9, and those analysts are right for recommending this issue. I recommend follow up.

Symantec Corporation (NASDAQ:SYMC)

SYMC is a software company that specializes in security and storage. Its stock was recently trading for a little over $16 per share, which is near the low end of its 52 week range of from $20.50 to $15.31. It has a market capitalization of $12 billion, and a P/E of 18.4. It does not pay a dividend.

SYMC's fiscal year ends March 31. In its second quarter of its 2012 fiscal year, SYMC reported revenues up year over year 14% to $1.68 billion, and profits were up 34% to $182 million, or $0.24 per share. The per share amount was actually up by 41% due to fewer shares outstanding. Since 2008, SYMN has repurchased some $3 billion of its stock.

With ever increasing security issues in internet commerce, SYMC has an excellent business niche. But with operating and profit margins of 17% and 10% respectively, it lacks the profitability of companies like ORCL or MSFT. I would not put my money into SYMC while these better options exist.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.