Microsoft's Coming Year of Discontent
By Jim Seymour
Special to TheStreet.com
5/13/99 1:51 PM ET
I'm a fan of Microsoft (MSFT:Nasdaq), both as a supplier of good to great software
and as a powerhouse of an investment. Though many ABM (anyone but Microsoft)
zealots in the PC business naysay its success, claiming it has succeeded purely on
marketing, chutzpah and maybe worse, not on innovation -- and I'll start hearing from
them minutes after this column appears -- I think a fair reading of the record
suggests Microsoft has won on both counts: good to very good products and good to
great marketing. No sin there.
Could some of those products have been better? Sure ... and they did get better, in
each successive release. Could the marketing hype have been toned down some?
Again, sure -- but marketing hyperbole is hardly unusual in the computer business,
nor limited to Microsoft.
Finally, could some of Microsoft's incredible success have had something to do with
its financial clout? Again, of course: a strong balance sheet -- and the willingness to
use that balance sheet, as Microsoft has -- is always a huge advantage, in any
industry.
But in the end it comes down to products. In every case, contemporary releases of
Microsoft applications have been better than the competition. Word 9x has been
consistently better than Lotus SmartSuite or Corel (COSFF:Nasdaq) WordPerfect
for Windows, for example -- and I count Microsoft's big wins with those products as
arising from product quality, not just cash and bash.
Next month, Microsoft will start shipping its next blockbuster application, Office
2000. And sometime later this year, probably, it's going to ship its next blockbuster
operating system, Windows 2000 (nee Windows NT 5.0). I already know Office 2000
is an exceptional product -- I've been using it for some time -- and I'm inclined, from
what I've seen of Windows 2000 betas, to think it's going to be solid, too.
But I don't think either is going to find the instant market success that Microsoft
applications and operating system releases have traditionally enjoyed. And because
the overwhelming majority of Microsoft's revenue and profits -- 80%-plus -- come from
Office and the various versions of Windows, if I'm right, that's going to put a dent in
that legendary Microsoft growth curve.
Every quarter for a long time now, Microsoft's CFO has told us the great new
numbers -- almost always better than expected -- and then warned that this just
can't continue.
Gregg Maffei said that again last month, after Microsoft reported third-quarter
earnings of 35 cents a share, topping the First Call consensus estimate of 25 cents.
And he repeated the now-standard Microsoft CFO mantra: This can't last. Maffei said
sales will probably be up in Microsoft's next quarter, with the release of Office 2000,
then probably sag, as Y2K-related delays in corporate spending and slipping
Windows NT 4.0 sales begin to take their effect.
I think we should listen to Maffei this time, despite the familiar tune. Yes, in the past
those quarterly warnings of more modest results ahead were largely spoken to
manage our expectations, so the next quarter's operating results would look even
better. Microsoft's hardly alone in managing analysts that way.
But this time, you should listen ... and, maybe, act.
Because I'm increasingly convinced that this time, a slowdown really is coming.
For many months now I've been talking to my corporate clients and contacts --
typically, the decision-makers, or at least those on the sign-off lists, on moving to
new software releases -- about their Office 2000 plans. Virtually all have seen and at
least played with it; many have been rolling out late betas in a modest way among
their kitchen cabinets of ear-to-the-ground advisers. Almost to a person, they like it,
and compliment Microsoft on the improvements over Office 97 -- especially the
greater "Web-centricity" of Office 2000. The new product allows users to prepare and
post to a corporate intranet their own material, for example, far more easily and
accurately than earlier products have.
But literally to a person, they're not planning on upgrading their companies to Office
2000 anytime soon. This isn't just Y2K hesitation, and it's not because they're
worried about the stability of the first release of Office 2000.
They say, time and again, "Nice stuff ... but we don't need it."
Because as they look around, they find that very few of the people they support
really need or want what Office 2000 can do better. Office 97, now nearly ubiquitous,
is a strong, comprehensive package ... of which perhaps only 20% is used by the
typical American office worker. Sure, there are computer jocks who pivot their tables
in Excel 97, prepare fancy animated presentations in PowerPoint 97, develop
complicated templates and macros in Word 97, and so on.
But they're the determined few, not the revenue-producing many.
So the corporate computing managers I've been talking with say they'll probably buy
some Office 2000 licenses for their high-profile early-adopters, and will allow others
who specifically ask for Office 2000 to move to it. But they're not nearly ready to
undertake the huge technical and training costs of updating something so
fundamental as the basic productivity software in use in their companies ... let alone
pay Microsoft for all those Office 2000 licenses they'd need in a companywide
rollout.
I've told Microsoft people this, and I see, almost always, in their faces a shudder of
recognition: They've heard this, too, from their customers. And they desperately want
to break out of that "power user" ghetto Office 2000 seems headed for.
I don't think they will, at least for some time. Office 2000 will eventually become the
new standard, displacing most copies of previous editions ... but over a much longer
product-adoption cycle than most securities analysts and PC-heads think. You and I
may love what Office 2000 can do -- and maybe we'll even use some of that gee-whiz
stuff. And yes, there is a significant if not huge number of gotta-have-its around the
country who always have to have the latest version of computer products.
But in the broader market, where Microsoft makes its money, Office 2000 sales are
going to ramp up, I believe, much more slowly than Microsoft says they will. And
Maffei's familiar prediction of flattening or even -- gasp!-- temporarily sagging revenue
growth will come true.
I don't want to be anywhere around Microsoft's stock when that happens.
What about the contribution from Windows 2000 (NT 5.0)? Well, the release date for
the final version of the most-delayed product in Microsoft's history is still uncertain;
most observers now peg its arrival at October to November of this year. (Be wary of
such forecasts, no matter the source: Microsoft has repeatedly changed its release
dates on this product, and with limited corporate interest in deploying Windows 2000
while Y2K worries remain, Microsoft might well keep the product in house for another
quarter or two, to fine-tune the code.)
Meanwhile, Windows 2000 has been fragmented into at least four separate products:
Professional, for corporate desktop use, plus Server, Advanced Server and Data
Server. All that division and redivision and reworking of the underlying NT 5.0 code
base has made Windows 2000 stability a worry for some corporate managers.
But far more say that though they're interested in the possibility of moving their
servers to Windows 2000, they aren't likely to act anytime soon. Too many choices;
too much uncertainty; too much pain. Linux gets a lot of press and a fair amount of
corporate attention, too -- though few corporate network managers are anywhere
near ready to consider actually adopting Linux yet. The hemorrhaging of Novell
(NOVL:Nasdaq) Netware customers to NT has largely been stanched, thanks to
strong leadership from Novell CEO Eric Schmidt and a rationalization of the Netware
line. And while Windows NT 4.0customers have talked for years about their
eagerness to move on to the next version, most have by now, with much work, much
frustration and a series of minifix Service Packs from Microsoft, decided they can live
with what they have.
In sum, I don't think we're going to see big early volume for Microsoft in Windows
2000 licenses, either. Not just not this year, but not next year, either. Again, this
slow start for Windows 2000 won't be mainly because of Y2K issues, which will in a
sense be a self-resolving issue, but because the pain and problems of a
companywide operating system upgrade are so great that network managers think
twice -- then again and again and again -- about putting themselves, their companies
and their job security through that wringer.
As with Office 2000, Windows 2000 will unquestionably become an important
corporate standard, and will eventually displace almost entirely Windows NT 4.0.
Just not very quickly.
All that does not augur well for a continued climb in revenue at Mister Softee, nor for
a steady rise in the share price. Certainly Microsoft has withstood very well the
buffeting of the past three quarters in a Washington courtroom, but that court's final
decision, and the odds the bookies will lay on the success or failure of Microsoft's
appeal, will eventually take their toll on the share price, as well. Microsoft could do
an Intel (INTC:Nasdaq) here, settling with the Justice Department, but there just
doesn't seem any midground on which the two could agree; a settlement would be a
very good thing but doesn't seem likely.
So, Microsoft bull though I've been, I think there are rough seas ahead for Big
Redmond over the next few quarters. Microsoft will undoubtedly remain one of the
great growth and profit engines of the U.S. economy, long term -- but if you're a
Microsoft investor, it might be smart to think about taking a breather for a while ...
while Microsoft profits do the same. |
