FT.com
August 29, 2013 7:48 pm
By Richard Waters
Steve Ballmer’s decision to step down raises questions about
whether the software group can get its groove back
The news of Steve Ballmer’s early departure as chief
executive of Microsoft has created a vacancy for one of the plum jobs in
business: a seat at the helm of a corporate behemoth worth nearly $300bn that
remains among the most profitable companies in the world.
It has also triggered a wave of speculation about where
Microsoft will go from here. When the effusive Mr Ballmer quits some time in
the next year it will mark a definitive break with more than 30 years of
technology history, a period in which he and close friend Bill Gates have
shaped the company around the PC.
Signs that the exit was hurriedly arranged have added to the
impression that Microsoft stands at a crossroads. Only weeks before, Mr Ballmer
announced a sweeping reorganisation of the company that was meant to accelerate
its faltering transition to the post-PC world, while putting himself more
clearly at the centre.
His successor stands to be remembered either as the saviour
who breathed fresh life into a fading company or as the person who was unable
to reverse a decline that had already set in.
“Every 10 years there’s a big technology company we think is
stagnant and going out of business – and they turn around and become dominant
again,” says George Colony, chief executive of tech research firm Forrester.
The list of tech turnrounds has included Intel in the 1980s,
IBM in the 1990s and Apple in the 2000s. This decade is the turn of Microsoft,
predicts Mr Colony, who is among those to argue that the company is well positioned
to fight back.
Mr Ballmer will certainly leave his successor with some
powerful weapons. Thanks to its abiding PC operating system monopoly, the
company has tightened its grip on the market for PC software with its Office
suite of productivity tools, while extending its reach to servers and other
important areas of business IT systems. Revenues have soared from $23bn in
2000, the year that he took over, to hit $78bn this year.
But this has not been enough to appease Wall Street, or
silence the persistent question that has dogged Mr Ballmer’s final years: as
the PC era that the company dominated passes, can Microsoft make the transition
to the new world of mobile devices and services?
A central question for the company’s next boss will be how
to establish an earlier foothold in the next hot technology markets, rather
than ceding them to rivals – as has happened in areas such as internet search,
smartphones and social networking. But releasing Microsoft’s inner innovator
will be challenging as long as the entire organisation remains beholden to the
old profit centres that have underpinned its fortunes.
“It’s very frustrating if you’re trying to get into a new
business and you’re protecting your cash cows like Windows and Office,” says
Arne Josefsberg, a former Microsoft general manager who was involved in the
development of Windows Azure, the attempt to build a new “cloud” based
operating system. In new technology markets, he adds, “you can’t be in it
halfway.”
The next head of Microsoft will not be given carte blanche
when they start. Mr Ballmer’s attempt to reposition the company around mobile
devices and services has had the full backing of the board, even if the CEO
himself is on the way out. Yet, as the new head of a technology giant in
transition, she or he will still face big decisions: how to refocus the
company’s efforts, where to channel extra investment or pull back, and how to
tap more effectively into the deep pool of talent and intellectual property
that still makes Microsoft one of the most feared competitors in the tech
world.
Those questions suggest a number of options. The company’s
preferred route is not likely to be limited to any one direction: big
acquisitions and divestitures may both follow, even as Microsoft commits itself
to stricter financial discipline that involves returning more of its cash to
shareholders.
Rediscovering the inner innovator: The big break-up
The US Department of Justice pushed for a break-up of Microsoft
more than a decade ago but was later overruled by the George W Bush
administration. Some observers argue that it is a shame the trustbusters did
not prevail: it might have ended up being the best thing that happened to
Microsoft.
According to this view, the company has had too much cash at
its disposal and too many options to focus clearly on any one route. Mr Ballmer
has been too ready to place multiple bets without being committed to any
individual course, says Michael Cusumano, a professor at Massachusetts
Institute of Technology who has followed the company closely for a number of
years. How could one company fight on so many fronts?
By contrast, the turnrounds at Apple and IBM only came about
after those companies were forced by necessity to make clear bets on a narrower
range of businesses with the potential to lead a revival.
Carving off businesses such as internet search and video
gaming, where Microsoft makes little money, might be a good place to start. But
why stop there?
The Office suite of applications has suffered from being
joined at the hip with Windows, according to the company’s critics. To
stimulate more demand for tablets running Windows, Microsoft has postponed
releasing an Office app for Apple’s iPad or tablets based on Google’s Android
operating system. That has reduced the visibility of Office on an important new
computing platform. But it has not helped sales of Microsoft’s Surface tablet
either, to judge from the $900m writedown taken on that operation.
Broken up into different companies, Microsoft’s core
businesses would be freer to pursue their own strategic goals. These nimble
“Baby Bills” could focus on infrastructure software and platforms such as the
Windows operating system; business applications such as Office; and consumer
devices and internet services.
Those who argue against a break-up point out that it would
run counter to a powerful trend in technology: the emergence of mobile
ecosystems that combine devices, software and internet services, putting a
premium on tight integration between a wider range of technologies. Microsoft,
though well behind, is the company best positioned to challenge Apple and
Google, says Mr Colony – but only if it remains a single company.
The cultural revolution
With $10bn in research and development spending a year,
Microsoft is among the very few tech companies left with an extensive and
ambitious research programme.
So why, runs the frequent Wall Street lament, does it not
have more to show for it? From tablet computing to online maps, Microsoft has
been a pioneer in promising new tech markets. But it has not been the one to
capitalise on them first.
Former Microsoft executives complain of insurmountable
cultural and business hurdles. Big-company blues have played a part, with too
many layers of approvals to get through before a new idea can get full support
within the organisation.
Even Mr Ballmer has expressed regrets about not having
backed enough promising new business ideas because they did not seem to have
the potential to become significant businesses.
“These kinds of things get squelched, they get killed,” says
Mr Josefsberg, former general manager for Azure, the software vital to
Microsoft extending its operating system business into the era of cloud
computing.
Inter-divisional rivalry with the more established Windows
group led to tensions, threatening the upstart business – a pattern that has
played out many times over the years as promising new ideas have been forced to
play a supporting role to the PC operating system division.
In the case of Azure, a new product that was considered
strategically essential, Microsoft overcame the tensions by setting the new
business up in a separate location and insulating it from the rest of its
operations.
The approach paid off, with Azure finally gaining momentum
after a slow start.
Mr Ballmer’s attempt to restructure Microsoft – a task that
the company says will take years – is one response to this problem. By
scrapping divisional boundaries, it would create a centralised organisation
that would leave Microsoft looking far more like Apple.
Whether that is enough to unblock the creative wellsprings
of the company under its next CEO is another matter. The next boss will still
face a problem that bedevils all giant corporations: how to get in early enough
on new ideas that will not make a material impact in financial terms for years
but will eventually come to represent the tech markets of the future?
The cash machine
At $23bn, Microsoft’s free cash flow in its most recent
fiscal year is double what Google produces – and Microsoft is not spending
money on long shots such as driverless cars and “smart” glasses.
It also has more than $77bn in the bank.
“Even though they make a bit less every year, they’re still
a moneymaking machine – and will probably be very healthy for the next five to
10 years,” says MIT’s Prof Cusumano.
Microsoft has showered its cash on shareholders before,
appeasing Wall Street with a record-breaking $32bn special dividend in 2004.
More recently, though, Mr Ballmer has become a hoarder,
leaving Wall Street increasingly restless over the mountain of money that has
been building up.
Little wonder then that Wall Street has been hankering after
a big payday. Following Apple’s lead from earlier this year and borrowing
massively to buy back stock – followed by a clearer commitment to return excess
cash to shareholders in the future – might do wonders for Microsoft’s stock
price.
It might well push the shares back above $40 for the first
time since the dotcom crash of 2000, according to Rick Sherlund, a software
analyst at Nomura.
A change in business strategy would underpin this commitment
to a more predictable distribution of excess cash. Ending its expensive bets on
consumer technology – even the Xbox games console, widely seen as a success,
may not have made a positive return in its 12-year life – would let Microsoft
tie its fortunes directly to the more stable business IT market, where it has
become a powerful force under Mr Ballmer.
It was a similar argument to this that persuaded investor
Warren Buffett, the chairman and CEO of Berkshire Hathaway, to overcome his
unease about the fleeting fortunes of tech companies with an investment in IBM.
That came only after Big Blue had demonstrated the highly predictable operating
and financial profile of a blue-chip.
Such a move, however, would fly in the face of another trend
in technology: consumerisation, which has put individual users in the driving
seat when it comes to choosing technology, often including the devices and
applications they use at work.
It would also rob Microsoft of a potentially important
strategic position, being able to span both the work and personal lives of its
users.
The Hail Mary
Microsoft has taken more than a decade to turn the Xbox into
its only undisputed hit consumer product. Its attempt to become a force on the
consumer internet, first with the MSN internet portal and later with search,
has taken far longer and soaked up billions of dollars.
How much more effective it would be, then, to use the
company’s sizeable rainy-day fund to buy businesses that would provide a
foothold in the new devices and services markets where Microsoft wants to make
an impact.
Mr Ballmer had the right idea, according to this view,
offering more than $40bn in a failed bid for Yahoo in 2008. But why blow so
much cash on a company whose glory days lie more than a decade in the past?
Rather than wasting time on the Zunes, Kins and Bings, which failed to make
Microsoft a leader in music players, smartphones and search, respectively,
would it not be easier to buy off the shelf?
In hardware devices, there is plenty of lost ground to make
up. Google and Apple both sell smartphones, tablets and laptop computers, while
Amazon is making inroads with its Kindle.
Fortunately, acquisitions here would be cheap. There is
Nokia, of course, a company whose fortunes have become inextricably tied to
Microsoft, as it has become the sole handset maker to bet its entire future on
Windows software. The tight integration of Nokia and Microsoft technology has
produced some well-regarded products, even if sales have not taken off.
For a play in PCs there is still time to make a bid for
Dell, whose disgruntled shareholders would jump at anything worth more than the
buyout offer from Michael Dell, the founder. That would also bring a bonus of a
wider array of hardware and services in the business technology markets.
For good measure, the next Microsoft CEO could consider
topping off the acquisition list with Sony (a deal that would bring
entertainment to feed its growing array of hardware devices and online
channels, leapfrogging Apple and Google) and Twitter. Current cash reserves
exceed the combined market value of all of those companies, although
acquisition premiums would push up the price.
To succeed in the acquisition department, the next head
would certainly need to bring new skills to the company. One of its biggest
deals, the $6bn purchase of aQuantive, an online advertising company, resulted
in a write-off of nearly the entire purchase price, while Mr Ballmer fumbled
and failed in what should have been a knockout bid for Yahoo.
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