24/7 Wall St.

We all know that the 2% drop in Microsoft (MSFT-NASDAQ) today is the result of Steve Ballmer trying to tell analysts to reign in their expectations for the Vista launch.  There is another take on this and that is that anyone following the stock the last two to three weeks since the launch of VISTA would have probably been able to guess just by the stock chart that this was looking like more than just a ’sell the news’ trading pattern. 

MSFT is down over 2% at $28.80 on what is already above an average day’s volume with over 88 million shares traded and on options expiration date.  Options weren’t really an issue this quarter because the stock was too far under the $30 strike and too far above the $27.50 strikes.

This WINDOWS VISTA upgrade cycle is different from prior Operating System upgrades.  This one isn’t the "buy off the shelf" from Windows 95 to Windows 98 or from Windows 2000 or NT up to Windows XP.  This O/S is a big bulky system that requires much more computing requirements out of PC’s.  By my own remedial calculations this operating system is one that simply won’t run or won’t run well at all on the bulk of the PC’s currently in peoples houses or in their offices.  The processor requirements are ok for many of the existing PC’s but most PC’s are either too low in RAM or the processors combined with RAM and virtual memory just won’t cut it.  That’s why it is important to know that the upgrades for this cycle will revolve around PC sales and PC repair/upgrade cycles.

The stock was already telling you this.  Last week we asked how many days the stock could drop after it was already down 9 of 12 days.  Shares are down about 2% since then.  If you have been around since before and during the dot.com bubble burst you know that the answer can be MANY more.  But the stock was already showing the weak environment, or so a technician would say.  This operating system is one that retail clients will get when they buy new PC’s.  Can you imagine by the time Summer gets here after the first and second service packs have come out how many people are going to run home with their new PC’s or Laptops screaming for joy that their systems have Windows XP?  That is highly unlikely.  Even Linux hasn’t broken in the way the technophiles would have hoped.  Apple has picked up share and that is undeniable, but even if Mac doubles its own market share it would be a drop in the bucket.  My partner laid out the scenario that could give MSFT a $36 target, and so far this hasn’t really changes but we’ll address soon if it does.

So this will be a longer upgrade cycle because it is a much larger investment than the $99 upgrades in the past.  This is one where users will be getting when they actually buy the PC’s.  You will no doubt read about major flaws and major problems in the coming weeks and months.  There is just too much ’sensationalizing’ and too much ‘web traffic measurement’ at risk for online media and blogs to avoid covering the problems.  If you wonder about the objectivity of media or of organizations, you aren’t alone.  It is really all part of the nature of the beast now and has been longer than most care to admit. 

We at 24/7 Wall St. would probably get more web traffic and more secondary and tertiary coverage by challenging the validity of this operating system upgrade cycle.  In truth, Linux systems and Mac systems have their place.  That has never been challenged by my nor by anyone here.  They will probably continue to grow market share and I can recall a speech in the mid to late 1990’s when Bill Gates made a stunning admission that future WINDOWS platforms might not hold the pole position 20 years into the future.  Who knows, it may and it may not.  Linux has serious support issues that the bulk of the population isn’t capable of dealing with for support and Mac has yet to really make serious inroads in the business community and almost no penetration in the financial community.

So before you go run out and consider the death of VISTA and the end of Microsoft, try to envision a longer cycle.  This one is not going to be made or broken by the launch results nor by one or two quarters.  There will be a migration if history is any gauge.  There are most certainly minions of hackers trying to wreck this.  It is Microsoft and any hacker that can take them down will be remembered.  There is also the flood of malicious code writing meant to steal from individuals and corporations, and that won’t change just because of a new O/S.  Someone may even be successful in creating severe havoc for groups or even for Microsoft if they are able to create enough harm.  Unless this ‘game changer’ is such a game changer that it chases everyone away then this should have been seen by the stock action.  Has Google (GOOG-NASDAQ) impacted the company products and its cycle? Yes, obviously.  Has Oracle (ORCL-NASDAQ) made an impact? You bet.  Has Red Hat (RHT-NYSE) made an impact? A small one. Will Linux and Mac take more share?  Almost certainly.  Will VISTA and other software from the company be pirated more and more?  The answer is only no if the penalties

This will be a longer and slower upgrade cycle, and that is what the Wall Street has to deal with on Main Street.  Go take a look at the last 5 to 6 years of MSFT shares.  Does it LOOK like a growth stock? No.  Does it ACT like a growth stock? No.  I have even argued that in the last few years since they started doing larger one-time dividends and share repurchases that Microsoft is actually not much different than the old world utility stocks.  So keep that in mind, but thinking that one is dead in the water might not be the best bet.  It will probably see close to 100 million shares traded today, but so far there have not been major concerns from the bulge bracket firms.  If you were excited a few weeks ago, this may just be a chance to be excited at lower levels.

Investors need to know that the long-term outlook on this is the focus.  Can this trade lower? Absolutely, and in fact it likely will.  Calling any absolute bottoms is both foolish and costly.  So don’t think we just told you to load up those buy buttons.  This was one of Jim Cramer’s 2007 "TECH EXCEPTIONS" and it isn’t likely that he’ll change his tune any time soon.  He might, but he usually doesn’t.

The writer of this article holds no positions in the securities mentioned.

Jon C. Ogg
February 16, 2007

Jon Ogg is a partner in 24/7 Wall St., LLC and can be reached at jonogg@247wallst.com via email; he does not own securities in the companies he covers.