THE MICROSOFT INVESTOR: Cloud Computing Will Be A $100 Billion Market

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huge fish

MSFT flat with the rest of tech this morning.  The stock has rallied over the past year with the Windows 7 release, but over the long haul, we think Microsoft is in a challenging spot, as the world moves away from PC-based computing toward cloud and mobile computing.  The next major catalyst is Office 2010.  MSFT currently trades at 15x 2010E P/E – inexpensive compared to historical trading multiples, but Microsoft’s rapid growth days are likely behind it.

Cloud Computing Is A $100 Billion Market (Merrill Lynch)
Merrill Lynch analyst Kash Rangan believes the addressable market for cloud computing is $100 Billion (that’s about twice Microsoft’s annual revenue).  This is broken down between applications ($48 Billion), platform ($26 Billion), and infrastructure ($35 Billion).  Along with Google and Salesforce.com, Microsoft is one of the few companies positioned well across all segments of the industry.  Why is this important?  “Azure, while slow to take off could accelerate revenue and profit growth by optimising customer experience and generating cross-sell of services.”  This is true, but the bigger story is if Microsoft can gain enough traction in cloud computing to offset losses in share by its Windows franchise.  At this early stage it is not looking like this will be the case.

Microsoft Presents At JP Morgan Conference: Tech Spend Encouraging, But Cloud A Risk (JP Morgan)
Stephen Elop, President of Microsoft Business Division (MBD) presented at JP Morgan’s TMT conference yesterday.  Analyst John DiFucci had the following takeaways:

  • Elop was cautious but did indicate he was seeing early signs of an increase in business spending.
  • The company is rolling out cloud-like features to its products in order to fend off competitors, but cloud products would likely decrease overall profit margins.
  • Office 2010 getting off to a strong start.  Elope noted “there were 8.6 million beta downloads of Office 2010, or three times the number of beta downloads seen with Office 2007.”

Credit Suisse Like Microsoft’s Pricing Strategy When Selling Office Starter 2010 To The OEMs (Credit Suisse)
Credit Suisse analyst Phillip Winslow analysed Microsoft’s prcing strategy on Office Starter 2010 and likes what he sees.  Microsoft will charge $5 per OEM to include Office Starter 2010 as a pre-loaded standard, but only $2 if Bing and MSN are included as default search and browsers and Windows Live Essentials are also pre-loaded.  “If the OEM prefers to install the $5 version of Office Starter edition, this incremental revenue versus Works would essentially cover the cost of the search toolbar. Conversely, if the OEM chooses the $2 edition, Microsoft would still receive the same amount of revenue as the company would have with Works, but there would be no cost to Microsoft for a preinstalled toolbar.”  From a profitability standpoint this makes sense (at least the company wouldn’t be losing money buying Bing distribution).  However, long-term Microsoft has to be more concerned with increased competition from companies offering cloud services.

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