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Was Microsoft's Deal Really That Bad?
09/11/2013 12:01 pm EST
Wall Street's reaction to Microsoft's purchase of Nokia was not well received but MoneyShow's Jim Jubak looks at the deal's dynamics and draws his own conclusions.
The market has decided that Microsoft buying Nokia is the dumbest thing since moldy bread. I mean, why would you want to go out and pay $7.2 billion for a company that's been bleeding red ink? I mean, Nokia lost about $2.1 billion last year. They've been losing market share on feature phones. They haven't made much traction on smart phones, why do you want to buy it?
Well, I think there are good questions about whether Microsoft will be able to pull off the kinds of changes that need to make this work. I think you've got a company that doesn't have a track history of innovation, has a history of in-fighting-where the cash cow, sort of, managed to kill off anything they think might threaten them-but those things aside, this is not really that bad a deal. Microsoft stock is headed down toward 31, 30. Below there you might want to buy it, just in case this comes to pass in a decent way.
Here are the reasons to think this deal is not as bad as the market says. First of all, they didn't pay very much for it. Yeah, the headline number is $7.2 billion, but on the other hand, a lot of that goes for licenses patents for ten years and the brand, so they're really paying about $4.5 billion, still not small change. It's less, on a revenue basis, than Google paid for Motorola Mobility, so it's a pretty cheap deal. In fact, on a multiple, it's about half as expensive as the Google purchase of Motorola Mobility's.
One of the things that happens when Microsoft buys this is it gets to put some cash to work that it really can't do much with right now. Microsoft, like Apple and a lot of other technology companies, has a lot of money stashed overseas that they can't bring back to the United States without paying a big tax on it, so they can't take some of the $70 billion that they've got overseas in cash, bring it back to the United States, and pay a special dividend without taking a tax cut. So they're basically paying for this, using cash that's been stuck overseas, so they saved the taxes on that, so it's not a bad use of cash.
Third thing is that by buying the Nokia phone division, they actually get more revenue per phone, so the economics of this don't look that bad, that right now, Microsoft gets about $10 per smartphone unit that Nokia sells. With this deal, that will go up to $40. It looks like, according to Microsoft's own projections, they will be able to break even on this deal if they can sell at a run rate of 50 million smartphones a year. Right now, Nokia is doing a run rate of about 30, so it's not a huge jump. It's a big jump, but not impossible.
Of course, the reasons for thinking that this is really hard, is that Nokia hasn't been able to do it themselves. Microsoft is not necessarily any better at this. That Microsoft is going through a lot of changes, and this is going to be one more. They've now got to manage 32,000 ex-Nokia employees in Finland, and figure out how to put this organization together-not one of their strong points-but if you think about it and say, "Well, Microsoft really has two choices right now. One is that it can manage its cash cow businesses and become, essentially, a manager of Office and Windows, and the cash flow from that, and sort of move gradually into irrelevance at growth rates slow in the PC business." The other is it can try to transform itself so that you're looking at things like, "Well, you know, they've got this cloud computing effort, that might be transformative."
They started to make tablets. It's clear that's not going to be transformative.
This is about as big a deal as you can imagine that might actually have some effect on the company without paying a lot of money for it. If you contrast what Microsoft's done to, say, Dell or HP, this is not a bad move. It's a gamble, but they're not betting the house. If it works, they've got a whole new future ahead of them. If it doesn't work, okay, so you write this off just like they've written off other acquisitions in the past. So looking at it that way, this is not a bad deal, it's not a great deal, there's still a lot of work that needs to be done to have it pull off, but I think if the market continues to get really, really sour on the deal, you might be able to pick up a company that generates a lot of cash for actually very little cash yourself.
This is Jim Jubak for the MoneyShow.com video network.
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