Microsoft Eyes Yahoo; I Sell My Microsoft Stock

A couple of years ago I bought some Microsoft (MSFT) stock because I thought it was undervalued. I do freelance technology and analysis work. Back then Microsoft was one of my customers and my analysis of the real competitive situation convinced me investors were wrong, yet again, that Microsoft was about to be destroyed by a rival. I have heard such talk since the early 1980's and so far all rivals have been left in the dust. Google is a standing man, but Google has not been around very long.


Yesterday I thought the stock was very undervalued given the recent earnings growth. But then Microsoft made what could play out to be the stupidest move in its history: a high-ball bid for Yahoo. There were rumors of this weeks ago, which may account for the Microsoft's low stock price leading up to the actual announcement.


I covered the Yahoo (YHOO) conference on Tuesday (See my Yahoo January 29, 2008 analyst conference summary). Yahoo is a good company and profitable, trying to deal with changing Internet culture and heavy competitive pressure from Google (GOOG). But its stock, by my valuation methodology, was overvalued on an absolute basis and especially when compared to the prices of other technology stocks during this liquidity sqeeze.


Now Microsoft proposes to buy Yahoo for even more than its already overvalued price. I think Microsoft would have been much better off just getting out there and competing with Yahoo and Google. Merge in Yahoo and its earnings will become stock valuation at Microsoft's relatively low PE ratio. Combined the two companies are worth less than if kept separate.


In addition, I don't see Microsoft infusing new vigor into Yahoo, or the other way around. Two heads are less than one, in this case.


So I sold me Microsoft stock today. There are better values in the market, both in technology stocks and in other segments. I still think Microsoft is a great company. For its most recent view of itself you can see my Microsoft (MSFT) analyst conference summary of January 24, 2008.


If I'm wrong, so be it. I don't see much reward, and I see a lot of risk, in this merger for Microsoft shareholders. But for Yahoo shareholders it is a great deal.


See also:


http://www.microsoft.com/
http://www.yahoo.com/
http://www.google.com/

Google and Microsoft

Google (GOOG) reported Q1 2006 results yesterday. The headline numbers hid some sequential weakness in earnings growth, and so far Google has not shown significant revenue beyond its search advertisement and AdSense franchises. [I don't own Google stock, but I use AdSense.] There was some good discussion with analysts. You can check out my summary of the analyst conference at www.openicon.com.

With the possible exception of Oracle, of all the "next Microsofts" investors have bet on in the last 20 years, Google has come closest to fulfilling that promise. Though it had years in the wilderness, it market cap swelled for more quickly than Microsoft's did in the mid-1980s.

Meanwhile, investors show little confidence in Microsoft (I own the stock and worked freelance for Microsoft from 2000 until 2006). Microsoft is due to report on April 26th, with the analyst conference beginning at 2:30 PM Pacific Time (see my MSFT page for previous conference summaries, and this one when it is posted). Today, using www.nasdaq.com figures, Microsoft stock is selling at 24.5 times trailing earnings and Google stock is selling at 49 times trailing earnings. Clearly that is a vote of confidence in Google's growth potential.

Microsoft revenues in Q4 2006 were $12.5 billion. Google had $3.21 billion in revenue the same quarter, so Microsoft is still about 4 times larger. It is also much more diverse. This company that began by selling the BASIC programming language to early microcomputer enthusiasts made its first really big money when it was selected to supply the operating system for the first IBM brand personal computer. That operating system has evolved into Windows Vista. In the meantime Microsoft added its Office Suite, the Visual Studio programming interface, and the XBox 360, to name some notable successes. It has also had some failures.

One big question going forward is whether Microsoft can gain market share in the highly-lucrative search market. Which is to say, in the targeted ad market. While the crew at Google is quite impressive, there is some real danger to Google, and not just from Microsoft. Yahoo has a new search algorithm for ad placement, and smaller search engines like Ask should not be ignored. But Microsoft's profits would go up if it abandoned Internet search altogether. Google has not yet proven it can make any other revenue model stick. Given its bankroll and its brains, I do expect Google to bring out products (or turn some existing products) with revenue streams that will please investors. But Google's big acquisitions, YouTube and DoubleClick, are extending the current franchise rather than branching out into truly different IT areas.

Microsoft had, for all practical purposes, a monopoly on microcomputer operating systems that it still has today. Linux is still more of a threat than an actual competitor. Google has no such safety margin. Microsoft search is not a danger to it, but Yahoo, another "future Microsoft", in many ways is ahead of Google in diversification and has a truly substantial share of the search market.

The days of hyper growth at Microsoft are over, but the stock pays a nice dividend, there is a huge stock buyback program, and growth keeps happening. Google has more potential, but it also has more risk. Choose either, both, or neither; you will probably be fine.

Search Wars Not Over

Last weekend I made substantial additions to a Web site for my wife's non-profit project, www.TapestryOfTheCommons.org. A lesser version of the site had been up for months. My wife complained today that the site did not come up on Google. I assured her that since there were links from other sites into her site, Google would have picked it up, but maybe not prioritized it yet. I was wrong.

At Yahoo search "tapestry of the commons" came up 3rd in the results. At MSN search the site came up number 1. Google truly did not list the site at all. Since I have an account at Google (for AdSense and this blog site) I was able to submit my wife's site. But I should not have needed to.

So I don't think the search wars are over. Like many people I tried Google early on, based on word of mouth. I was mostly using Yahoo and AltaVista to do my searching. Google, back then, was free from annoying ads. That, I guess, was the cost of entry. Yet more often than not Google gave better results; it is still my first line search engine.

But to my taste Yahoo gives better results for shopping and for investment related searches. I have gotten some good results from Ask.com when Yahoo and Google failed me. Now that Microsoft showed me it can be number 1 in results I want, I'm going to try it more.

What does this mean for investors? Some caution and hedging of bets seems smart. I own Microsoft stock based on its ability to sell operating systems, Visual Studio (which I use and love), and SQL Server. If its Web search division starts making more money, Microsoft stock will look cheap in retrospect. And if Yahoo or Ask make any gains against Google, the high Google price-to-earnings multiplier will look almost as silly as Year 2000 stock prices based on "Web page hits" rather than on earnings.

Don't get me wrong, Google is a great company. It employs lots of smart people; there is plenty of upside potential in its earnings. Google, so far, has excelled at monetizing Web searches and ads.

See also my summaries of the latest quarterly results and analyst conferences for GOOG, MSFT, and YHOO.