In Microsoft
Microsoft is a difficult situation for me to evaluate. I think the company still has much growth ahead in some areas. But that depends on where management wants to take it.
There are three main activities are already well developed: Windows, Office and servers.
The den of the first two are wide. The moat of Windows is huge.
The business model in operating systems is large. Continues to update every few years, hardware need not progress for you to find things to adjust and get people to buy the next step. It is incredibly profitable.
I think the new release (Vista) will be bigger than people expect (eventually) as it allows cross-sell other Microsoft products (but we'll see about that.) I hope the press to be very negative at least until well after launch, there will always be some errors and delays.
Games
Over time, video games is a big business for Microsoft. I hate the economy of the console business, but the love of the economics of publication (and development) side things.
I'm sorry to see that Microsoft used its cash pile to buy an established business here (economic editors on the market a few years ago an all-cash deal that worked well. Now everyone thinks that video games are the next big thing).
The console wars are going well for Microsoft. The two keys to establishing a dominant console being launched first and get good games on your platform. Let's see how Sony (SNE) is this round, but I hope it will big loser.
Nintendo may surprise here. I think the Xbox 360 and Nintendo's new console (Wii) will do very well. It will be interesting to see the breakdown of the consoles in domestic and foreign markets. I think Sony may still be strong abroad, but could be in a much poorer position at the end of this round of what were with the PS2.
Search
In the long term I'm optimistic about the search. I think Google's position is much weaker than most people think. I do not think Microsoft will be the only beneficiary here.
Search is a very natural cross-selling Windows. That is the sense that everything seems to be directed in (combining online and desktop search.) For future growth in terms of market share I think Microsoft is in a better position than any of Yahoo (YHOO) or Google (GOOG).
I also think we might see a couple of other (largely unknown) search engines make some action.
I think Google's strength is its brand. His dominion over helps advertisers to users. I do not think that has a lock on users. In addition, I think Google has been in poor position to do much of anything beyond keyword search.
I hope to see much more in the way of intelligence material inspired social search. In a few years, much of the search will have to help you find what you did not know he wanted to find.
Google has a dominant position in a different market: helping you find what you know you want to (but do not know the name or location). The two types of search are very different. Both are important, but growth in other forms of search is coming from a smaller base and probably will be integrated with search keywords. Google has more to lose here.
Other Devices
Microsoft wants a good performance on mobile devices and TV. Compared with competitors, is very strong in these aspects.
The strategy seems to be that I would support – to control the point of initial contact always software that is used and only then venture to effectively enforce the content or side of the business where it is very profitable. In video games will be highly profitable. In other areas are less likely to be very profitable.
I hope to see more generic, web-based applications. These will be less profitable for everyone. Office should hold up well, but not as well as Windows. Basically, Microsoft has to take what you have in the PC and import it to TVs, handheld devices, consoles and the Web.
That should be the strategy. I think it's the strategy. This is not unrelated business to be divided to unlock creativity (as some have suggested). Rather, the profit potential for each is greatly enhanced by being part of Microsoft. If you take these separate pieces that are worth very little. It would only be the three companies I started talking about the console and / gaming business.
Internationally, it will not be the natural growth of Microsoft's dominant firms. There will be a fee tremendous growth, but will be strong and require virtually no additional investments to secure.
Obsolescence Issues
In general, I like the future much more software than hardware, because the marginal gains in the quality of hardware to slow substantially in coming years.
The question is not what can be done mathematically in terms of increasing specifications, is what leads to the user. We are reaching a point where the individual user not directly see the benefits of increased hardware performance as clearly as it did in the past.
Much of the research in this area will only serve to reduce prices and profits memory-intensive businesses – will not provide as much of a 'wow' factor for the power user.
This is especially true in games. The situation in desktop applications already such that improving the software design is where most of the profits will come from.
Computing power is not simply a scarce resource for most individuals sitting at home or in a cubicle. Advances will benefit some users much and have a positive impact for the end user (often via the Internet) through quick response and cheap services. But this is a change barely visible.
You will see something here similar to the kind of thing you see in the brokerage business. It will not be obvious, because price competition is not as great in the software.
In general, you'll see prices for some electronic download. That is very different from what we have seen in recent decades, which also progress had attracted new users, because it allowed developers to do something different, not just cheaper.
This is a very long trend term worries me. It could weigh heavily in a company like Dell (DELL) PC because it is actually very durable, once the rate of obsolescence is slowing, sales should be reduced speed as the cycle lengthens.
Administration
I believe that Microsoft management is absolutely the best in the business. In fact, I think it is a of the best in any business.
It would be difficult for me to find more than a handful of people who prefer to manage a company owned on behalf of. I also believe that the current scheme is good.
There is not enough of a line between current operations and future investments in the President and Director General division that investors will probably get the most benefit from the brilliance of the President in this way.
Everyone underestimates Bill Gates. It's easy, because his great triumph came a long time ago. But, he is interested in building something lasting. I trust him more than anyone in technology without a doubt. I am always impressed if you are talking about their own industry or some other subject. He has exactly the right kind of mind of someone who has a business in the long term is concern.
Qualitatively, I think Microsoft scores near perfection. I could cite statistics on profitability, but not I will, because you know you're better than almost any other business on the planet – and that's a huge siphon resources for investment in the future that are not required to maintain in dairy cows, a large ditch Windows franchise.
Valuation
The assessment is a bit more worrisome. Microsoft is not at the point where an EV / EBIT basis where I'd be buying the stock if it runs the risk of not extraordinarily profitable growth in the future. In other words, at current prices, it is clear which makes it a bad link.
The key is earnings growth. I think you have to believe MSFT will have a real future in the search, games and devices non-PC that will drive the future, highly profitable growth.
I think the future is there. As for large cap real action (10 billion dollars or more) is about as attractive as anything on the planet right now – and certainly more attractive is the action of any U.S. very big business. A While Intel (INTC) and Dell are cheap looking, do not like nearly as much. Dell is an interesting situation, but I do not understand business well enough.
I have a better idea of where MSFT is headed – and I like it.
Conclusion
Do not own shares of MSFT. I will not buy any. Not normally own the large stocks. I prefer much smaller companies, because the mispricings tend to have more out of whack. You are not going to see an EV MSFT trade / EBIT of 7.5 or something, but sometimes get those occasions when small (high quality) firms.
There are plenty of opportunities to find mispricings wild without much of the future to be a concern. Those are the situations I prefer to invest, because companies like MSFT have a very large anchor with the amount of capital they have – also tend to be less likely to be wildly wrong.
However, if the company had a market capitalization of more than of $ 10 billion and hold it for a lifetime I would buy Microsoft here without hesitation.
About the Author
Geoff Gannon writes a daily value investing blog and produces a twice weekly (half hour) value investing podcast at Gannon on Investing
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