Tuesday, May 10, 2011

Regarding Microsoft's Purchase of Skype

The big news this morning is Microsoft's purchase of Skype of $8.5B. I just saw a fairly straightforward financial analysis of Skype's return, on current revenues, earnings and volumes, to Microsoft, for the $8.5B investment basis. I believe the ROE was around 3%.

There are dozens of sell-side analysts who are more plugged into the details of Microsoft's and Skype's financials than am I.

Rather, I tend to view these types of transactions from the larger, simpler perspective which I learned many years ago from, I believe, reading Peter Drucker's editorials in the Wall Street Journal back in the 1980s,

'What does the buyer bring to the purchased business besides money?'

I've been listening to various pundits on CNBC and Bloomberg opine all morning long on the stakes, risks and opportunities of this transaction for Skype, Microsoft, Apple, Facebook and Google. The prevailing sentiment seems to be that Google, which was allegedly also interested in Skype, is the biggest potential loser.

Bloomberg had a very interesting exchange between its on-air anchors about half an hour ago discussing this, in which one of them distilled that point to the question,

'Does this deal cause Google to reconsider their strategies, and worry about Microsoft's new acquisition?'

I'd guess it does not. Besides the $8.5B Microsoft brought to Skype, it brings, well, more money for Skype to burn through. One observer noted the internet phone firm was still losing money as of last year.

But the larger issue can be seen in the price chart above for Microsoft and the S&P500 Index since the former's inception. Since its peak during the technology sector bubble in 2000, Microsoft has stalled and declined, while the Index, as we all know, also spent the decade in neutral.

But, as an alleged technology firm, Microsoft should have been doing something over a decade to move its share price. That it did not causes me to contend that its management won't be capable of doing anything material with Skype, either.

A corollary question of Drucker's which I quoted above is to ask why a joint venture or marketing alliance can't or won't do as effective a job as an acquisition, but with less risk?

In this case, I think that's a reasonable and important question. Everything I've heard about supposed Microsoft benefits with Skype could have been accomplished with a closer collaboration effected by some sort of formalized alliance in which Skype received money in exchange for closer product/service integration, or special Microsoft-Skype offerings, and restrictions on Skype's other alliances during the term of the agreement.

That way, if Microsoft valued Skype's management or simply its customer base, it would have easily retained the value of both. However, by acquiring Skype, Microsoft immediately risks the traditional management and organization integration issues that account for the high levels of failures of this sort of transaction.

Just last month, analysts were calling for Ballmer's replacement. Now he's made what I believe is the largest transaction in Microsoft's history. So the guy who couldn't manage what he had, is going to make his firm rocket back into profitably torrid growth with this one magic bullet?

I just don't think so. Not by design, anyway.

Nor do I think it will particularly affect Google, Apple or Facebook, either. In fact, I just saw a note that Microsoft will support Skype on other platforms. So it is damned if it does, aiding competitors, or if it doesn't, potentially losing the customer base it just bought.

Maybe one of the myriad unpredictable multi-media convergences now developing faster than vendors can predict will result in such a windfall for Microsoft. But I think it would be more of an accident than planned.

My own quantitative equity selection process hasn't included Microsoft in a portfolio in well over a decade. I don't think the Skype acquisition will change that any time soon.

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