Microsoft's $US7.2
billion ($7.9 billion) takeover of Nokia's handset business cost shareholders more than twice that, as it dashed hopes for a
fresh start under Steve Ballmer's successor.
The world's largest
software company lost $US18 billion ($19.7 billion) in market value since the
purchase of Nokia's mobile phone assets was disclosed, erasing all of the gains
that followed the announcement last
month that Ballmer is retiring, according to data compiled by
Bloomberg. The agreement cements the departing chief executive's shift toward
the more volatile consumer-device business and leaves little room for his
successor to take a different tack, Atlantic Equities said.
Microsoft is chasing growth in a market already dominated by
Apple and Google with devices that generate lower returns than the
company's business-software division. Nokia CEO Stephen Elop is returning to
Microsoft as part of the asset sale, making him Ballmer's most likely successor
and signalling that the company is in smartphones for the long haul, Sanford C.
Bernstein & Co. said, even as some shareholders say that strategy is
misplaced.
"I can't say I'm too thrilled about the deal," said
Tim Schwartz, a money manager at Schwartz Investment Counsel, which
oversees $US1.3 billion ($1.4 billion) and owns Microsoft shares. "The
perception is that this is going to be a continuation of the old management and
old-school Microsoft mentality."
Ballmer exit
Microsoft shares surged
7.3 per cent on August 23 after Ballmer, who has been CEO since 2000, said he
will retire within 12 months. Some investors were eager for his
replacement to be an outsider who
might make bold moves to reverse a shrinking market value, such as spinning off
consumer-centric units such as Xbox and shifting its focus back toward software
and services for businesses.
The Nokia purchase instead has fuelled speculation that Elop, a
former Microsoft executive, is being groomed to take the helm and will continue
with Ballmer's strategy of keeping enterprise and consumer products under one
roof. The stock has dropped 6.6 per cent since announcing the Nokia
deal, sending Microsoft's market value down to $US260 billion ($285 billion) on
Wednesday in the US.
"There have been a meaningful proportion of investors who
had hoped that Microsoft would de-emphasise its consumer businesses and focus
on its more profitable, more predictable corporate businesses," said
Atlantic Equities analyst Chris Hickey. "This acquisition obviously makes
that possibility extremely unlikely" and "ties the hands" of the
next CEO, he said.
Critical market
Microsoft said adding Nokia's handset business will let it make
more money from Windows Phones and help the software maker move faster and
create better products in a market that is critical to its success. The company
sees "significant long-term revenue and profit opportunities" for
shareholders, Ballmer said in the press release announcing the deal.
"Phones are the most personal of the personal devices
people use today and success in phones is important for success in tablets and
PCs," said Microsoft general counsel Brad Smith. "We need to move
faster."
Microsoft spokesman Tony Imperati declined to comment further.
The timing of the deal limits activist shareholder ValueAct's
ability to fight the deal, according to Rick Sherlund, a New York-based
analyst at Nomura Holdings. ValueAct last week won an agreement that would give
it a seat on Microsoft's board next year and guaranteed regular meetings with
"selected Microsoft directors and management". In return, the
investor won't pursue or participate in a proxy contest.
Response options
A source with knowledge of the matter has said ValueAct wants
Microsoft to focus on its business software and internet-based cloud services
rather than consumer technology. Representatives for ValueAct didn't return
calls for comment on the Microsoft-Nokia deal.
"Now that ValueAct has entered its standstill agreement, it
is not clear what alternatives ValueAct may have to respond to shareholder dissatisfaction
with the Nokia deal," Sherlund wrote in a note on September 3.
Much of the dissatisfaction is due to "not the deal itself
but what it could mean," said Bernstein analyst Mark Moerdler. "It
may not be the end of the investments Microsoft makes in trying to chase after
the consumer market, an area that the Street may or may not feel is the best
use of Microsoft's resources."
More deals?
Microsoft still needs more applications and services if it wants
to fulfil Ballmer's strategy of integrating its services with its devices,
similar to what Apple has done, Wells Fargo analyst Jason Maynard wrote in
a September 3 report.
BlackBerry's strong
presence in the enterprise market could still attract interest from Microsoft,
according to sources familiar with the matter who asked not to be identified.
Shares of the Canadian smartphone maker, which is weighing a
sale, have risen 6.2 per cent since Microsoft's Nokia announcement.
Microsoft paid 0.42 times Nokia's trailing 12-month revenue from
devices and services, according to data compiled by Bloomberg that includes net
debt. That revenue multiple would imply an enterprise value of $US4.8 billion
($5.3 billion) for Blackberry. The device maker's equity and net cash are
currently valued at $US2.8 billion ($3.1 billion).
The acquisition will put an even bigger spotlight on the
struggles in Microsoft's consumer-devices business, which are likely to
continue as it faces off against stronger rivals Apple and Google, Hickey of
Atlantic Equities said.
Declining asset
The deal doesn't offer much more to Microsoft than it already
had as part of its partnership with Nokia, according to Deutsche Bank analyst
Nandan Amladi.
"They already had a partnership in place, so people are
wondering why they bought an asset with a declining revenue base and pretty
challenging margins," Amladi said.
Microsoft is paying a much higher premium for the Nokia assets
than "even optimistic estimates suggested they were worth",
said Todd Lowenstein, a fund manager at HighMark Capital Management, which
oversees about $US19 billion ($20.8 billion) and owns Microsoft shares.
"The deal handcuffs the next CEO somewhat," Lowenstein
said. "This feeds into the perception Microsoft lacks capital discipline,
overpays on deals, and chases growth in areas where they aren't competitive at
their core."
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