Home runs, base hits, virtual aspirations and actual failure
As shareholders we all want MSFT's "investments" to pay off. The company obviously can't live on just its legacy cash cows forever. New accretive investments offer the potential for not just keeping the company strong, but also [finally] accelerating earnings.
Unfortunately, as per my last post, most haven't over the past decade. Sure, they've taken the up-front cash required by most investments - way more than most in fact. It's that niggling little thing called profit, or shareholder value created, that's proven elusive for the current leadership team. Which is why we now get CFO Liddell belatedly telling us that we shouldn't look for normal internal rates of return from these efforts like at other companies. MSFT "investments", you see, are special. They don't follow normal convention. Instead, they are "winners-take-all" events. MSFT is swinging for the fences; They're not interested in mere base hits. And all those apparent strikeouts so far? Well, they're hoping the game goes into extra innings.
Let's examine how this has worked out in just one area - virtualization. Back in 2003, in a uncharacteristically non-laggard move, MSFT bought the virtualization guts from Connectix. Since that time, they've done what they often do after making an acquisition: buried it in bureaucracy, forced it to be a cog in some massive overall strategic architecture plan, and continued pouring cash into it. The result? According to Trip Chowdhry, senior software analyst at Global Equities Research:
The Redmond, Wash.-based software giant has 'been a total failure when it comes to virtualization'.
Tell us what you really think, Trip. Sadly, that's accurate.
Meanwhile, EMC was busy buying a small software company. When asked about it now, they indicate that their go-in expectations were rather modest; They were just looking for a base hit. That company was VMware, acquired by EMC back in 2004 for $625M. On August 14th, 2007, following an IPO for VMware, EMC's remaining 85.6% stake was worth $16B (even more now btw, with total marketcap approaching $27B). And that's after already receiving $218.5M and $150M from INTC and CSCO respectively for a piece of the action.
In other words, for just $625M, EMC (primarily a hardware vendor) managed to buy a software company - a year after MSFT's entry into the segment - and still generate more shareholder value in just three years than MSFT (the world's largest software company) has generated from all of its investments combined over the last decade, with the possible exception of Server and Tools (although that's predates a decade). Oh, and did I mention that along the way VMware has been profitable (something this and other equivalent MSFT efforts almost never are) AND is the category leader despite MSFT's best efforts to unseat them in what even senior management concede is an increasing strategic area?
BTW, for more on VMware see here:
MSFT is a large company and it's reasonable to assume that some opportunities are too small to be pursued because they won't "move the needle" in a meaningful way. However, the current strategy of eschewing base hits for home runs clearly hasn't worked either. The latter have mostly turned into strikeouts, either clearly or soon-to-be. Meanwhile, a few decent base hits like VMware in MSFT supposed core area of expertise (software) -and a strategic one at that - could have put up numbers meaningful even to a company of its size. And in this case it's not like MSFT wasn't there early and spending equivalent amounts of money to succeed. They simply failed to focus, prioritize and win the game. Apparently it was more important to dream about other possible match-ups in different leagues entirely, and spend $20B+ to field new teams like Xbox, for example, only to now risk "becoming a distant third in the battle for market share in the video game business".
The real shame - and waste - is that the internal virtualization team at MSFT probably contains many members who are just as pissed off and embarrassed by this lackluster performance. It's likely not lost on them that just up the road in Washington State, Parallels is generating more buzz vs VMware than MSFT. But they're likely hamstrung by the stifling bureaucracy that's telling us everything will be better if the game goes into extra innings. Server 2008 will come in to relieve, and brings new virtualization/hypervisor functionality. Well, not right away when Server ships mind you - whenever that ends up being. But 180 days later - or thereabouts. Because...well, you know. And "it'll be great" - or maybe just okay. Because...well, you know. That's what Ballmer said about Vista too and look what happened.
Meanwhile the stock continues to under perform. If you're keeping track, that's now under performance versus all three major indexes on an intraday, 5 day, 10 day, 1 month, 3 month, YTD, 1 year, 3 year, 5 year, and decade to date basis. Go figure.
As an aside, at what point can we hope for a management team that rather than cite their ability to come from behind as a badge of honor, will deal with the underlying reasons why they're always late to market - or at least slow out of the gate - and need three generations minimum before being competitive?
Update #2: (Related)
Microsoft is far behind and everybody else, including XenSource, is a speck on the horizon.
Update #3: Some actual good news on the VM front: