What Can Microsoft Do To Stay Relevant?

Microsoft, the largest name in software led by some of the most brilliant minds in business, has found itself in quite a jam lately. Since the start of the millennium, Microsoft (MSFT) has found it increasingly difficult to grow through the credit rich bull market but is showing some signs of hope as the Windows 7 launch nears. However, is this enough for Microsoft? I do not think so, especially with their pile of cash and access to credit. I believe MSFT needs to be evaluating other options, both organic and inorganic, to help jump start its growth.

Microsoft is poised to release Windows 7 in late 2009 or early 2010, essentially placing their success on one product, something I refer to as not “diversifying your future.” This is just like an investment; one cannot bank the success of their company’s hard spent time, capital and efforts on just one major product. Microsoft does have the new Azure, a cloud computing platform, but little has been said about pricing specifics and the total potential it has compared to its open source counterparts. Many of you may be wondering about Office, however, this source of revenue will be rendered obsolete as cloud architecture gains steam and it becomes less expensive to own a system loaded with basic productivity and business tools. Deploying software into a recession could be brutal for the future of The House that Gates built, as fewer consumers and corporations are likely to upgrade already well functioning products.

Microsoft has a cash position of over $8 billion and clean books with no long term debt and minimal short term liabilities. I believe that it is time for Microsoft to join its peers and mobilize on its plan to issue debt for the first time in its existence, while leveraging its liquidity to grow shareholder value. Although cash levels are not what they used to be, and the dividend is at $0.52, I believe MSFT has a long way to go to continue to appease shareholders. I have outlined three possible moves which Ballmer and his team could choose as they wake up from their long nap at the wheel of the world’s largest software maker.

1. Consider a Niche Software Buyout Spree

Microsoft competitors have been doing it over the last 3-5 years, scooping up small diamonds with young but extremely attractive product offerings. This strategy has worked well for the likes of IBM (IBM) and Oracle (ORCL) that have grown their offerings with such focused purchases. If integrated successfully, such small organizations will provide Microsoft with fire power to expand its awaited Windows Azure cloud computing platform. With such niche software in their arsenal, Microsoft could tweak offerings here and there to customize development tools, resource management processes and CRM services. Oracle and IBM are continuously seeking new ideas and staying ahead of the curve through select acquisitions that can complement and strengthen their core business offerings.

The imminent threat to Office from the expansion of cloud computing will seriously hurt Microsoft’s revenues and its cash flows. This is a long term concern that must be addressed with strategic pricing for their cloud platform and the development of the “next staple suite of products”. Microsoft should look out of its gates to seek fresh ideas in this rapid changing world where companies seek an increase in productivity, while reducing costs.

2. Launch an Artificial Intelligence R&D Group

Seeking some potential profits on someone else’s dime? This is definitely a great approach to take in Microsoft’s position, where they can put their capital to work while also receiving some funds from the government for ground-breaking findings in this high growth, low penetration field. There have been significant breakthroughs in artificial intelligence, and Microsoft has small research initiatives in this field. However, a team could be expanded. Let’s not forget that before Bill Gates left, this was a realm he found fascinating and was pushing for a standard platform to develop a systems of AI products. Nevertheless, there is a long way to go as businesses seek to get leaner. The best option for businesses to become leaner is to replace human functions with smart robots. There have been discoveries in this field, but much has to occur in the field of logic systems that can evolve like humans do. Once such algorithms are formulated and logic systems are melded with organic processes, the likes of healthcare, manufacturing, and military, amongst many others, will drive large profits that could revolutionize the way our world looks. This is a potential long term project MSFT could engage in and tap into various disciplines to emerge as a leader in AI by leveraging relationships it already has with the likes of robotics maker Tmsuk.

3. Consider a Management Reshuffle

Management at Microsoft could use some fresh minds that can help catalyze new thoughts and strategies. This point could actually become quite expensive as older leaders will require heavier severance packages, and as the new talent will also require heftier terms to lure them from already great jobs throughout the industry. This personal suggestion of mine comes after becoming extremely frustrated with holding Microsoft’s stock in an actively managed mutual fund. The lack of proactive, ahead of the curve business development has left this giant behind its many rivals who have exploited certain niche markets and penetrate new areas to continue their growth. An example of this is IBM joining many of the Green Utilities to offer them “smart grid” software to adhere with the push to become more environmentally friendly. It is these kinds of opportunities, the ones that exist outside of IT, that management needs to take advantage of.

Although I do not have any specific names to boot from Microsoft or poach from the likes of Big Blue or Google (GOOG), I can tell you this is something that needs to be done. This could be a relatively cheap managerial move with benefits that have the potential to exceed costs. Bring in the minds that supported the development of popular Web 2.0 apps, advanced web search algorithms, and other services of the like. The whole thought of buying Yahoo! (YHOO) does not make sense; Google has taken over and is the dominant leader in web search. The combination of two slow growth firms does not equate to a high growth entity. It is time to get younger at the upper echelon of software’s “best” name and look for better business opportunities.

Above are my recommendations for Microsoft, all of which they could do in a depressed economy due to their massive cash reserves… after all, money talks. My last point could be seen as rash, but sometimes when your business is not headed forward, it requires some drastic changes to catalyze a rebirth of growth strategies. I do hope that Windows 7 is a hit for the sake of Windows users like me and for Ballmer and his team. Their future could hinge on this major launch, which could be seen as a mistake since the release is during a major recession without any other major product releases to “diversify their future.” If Microsoft does not work to rethink its growth strategy, it could continue to see its share price under perform and continue losing fans to competitors like Linux and Apple (AAPL). Keep an eye on Microsoft as 2009 progresses and their much anticipated operating system is prepared with final touches.

Disclosure: The mutual fund the author is associated with is long IBM. The author is short MSFT’s management.

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