Company of the Week – Microsoft (MSFT)

This week I thought I’d use a little bit different approach to the company of the week.  Specifically, I wanted to bring Warren Buffett’s approach and strategy into play a little more.  So, using Robert Hagstrom’s The Warren Buffett Way, I have a list of Business and Management Tenets to consider with the company.  Hagstrom also mentions Financial and Value Tenets, but these are in essence the same as Benjamin Graham’s teachings.

Business & Management Review

1.  Is the business simple and understandable?

I believe this is a question that is dependent upon each investor’s understanding of the business.  For Warren Buffett, Microsoft probably would not pass this test, as it is a technology company and he has traditionally stayed away from technology for this very reason.  However, I feel that I understand Microsoft’s business plan, strategy, and believe it to be simple enough to be worthy of my further research.

2.  Does the business have a consistent operating history?

Microsoft has now been in business for 30 years, and has been an industry leader for over 15.  The company has not changed its approach significantly over time, but has gradually adopted new strategies and opportunities.  Overall, I believe the company has had a very consistent operating history.

3.  Does the business have favorable long-term prospects?

Long-term, I believe Microsoft will continue to be an industry leader.  Though competition is growing from other operating systems for computer servers, it is hard to imagine a world where the majority of computers do not run a version of Microsoft Windows.  The company is also pursuing other endeavors, in attempts to compete with Apple Computers (AAPL) and Google Inc (GOOG).

4.  Is management rational?

Recently, Chairman and Chief Software Architect Bill Gates announced that he will be stepping down and taking a reduced role with the company.  Current Chief Executive Officer Steve Ballmer will be increasing his control over the management of the company.  While on the surface this appears to be a change that could cause uncertainty over the future of the management of Microsoft, I believe that the approach the company is using to ease the transition will be beneficial long-term.  It is apparent that the company has been rationally preparing for this change of leadership for some time now, and Steve Ballmer’s history with the company and friendship with Bill Gates will lead to a smooth change.  You can read more about this transition in this Wall Street Journal article:  http://online.wsj.com/article/SB115405072580419987.html.

5.  Is management candid with its shareholders?

Microsoft has a very extensive Investor Relations page, located at http://www.microsoft.com/msft/default.mspx.

6.  Does management resist the institutional imperative?

I believe that the company does resist the institutional imperative.  Essentially, Buffett describes this phenomenon as when a company’s management tends to mimic the behaviors of other managers.  Microsoft in the past has tended to create its own approach to different situations, and clearly does not resist change – as evidenced by their recent announcement to enter the MP3 market to compete with Apple’s iPod.

Financial and Value Review

Microsoft has had a good financial history.  The company has had a positive net income for over 10 years, has a good current ratio, has increased EPS from 10 years ago by over 1/3, and currently pays a dividend.  Microsoft may be a suitable company for enterprising intelligent investors, but not defensive investors. 

Upon my review of the company, I have found that the company seems to be significantly undervalued, and believe there is strong potential for the company to reach $37/share within the next few years.

Jon currently holds a position in Microsoft (MSFT).  Also, please read our disclaimer.


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