Adam Lashinsky
It just didn't sound that good to me.
Before you're done reading about Microsoft's(MSFT Quote - Cramer on MSFT - Stock Picks) December-quarter earnings report, you'll read all about how the absence of bad news is good for the stock. You'll hear that sales picked up at the end of the quarter, that the climate hasn't worsened since the company's Dec. 14 preannouncement of disappointing results and that the second half of next year is looking strong. And if what I just wrote becomes Friday's conventional wisdom, then as night follows day the stock will go up. (Already the shares traded up from Thursday's close of $55.50 to around $59 in the after-hours market, according to Island ECN.) Well, I heard something slightly different, something that suggests it's plenty possible there'll be other opportunities to buy Microsoft's shares for Thursday's closing price. For starters, CFO John Connors said twice that Microsoft's fortunes for the rest of this year are highly dependent on the overall global economy. There's a feeling out there that because the Federal Reserve
seems to be committed to lower interest rates, the economy will be peachy. That's far from a done deal. Despite saying that things had not worsened, Microsoft did nothing to suggest it has any visibility on the future economic health of the country or the world. "The company [is] not out of the woods yet," agrees Rick Sherlund, software analyst for Goldman Sachs and the analyst on the firm's 1986 initial public offering. "But [there's] some relief in the stock likely given [the] absence of any further downward revisions on the call," Sherlund wrote in an email exchange immediately after the conclusion of the teleconference with analysts. "The positive was the absence of any additional bad news, somewhat better than the preannounced December-quarter revenues, and good growth late in the quarter in deferred revenues." But it's important to note that all Microsoft really succeeded in doing was climbing over a bar it lowered a month ago. In December, it suggested its fiscal second-quarter revenue would be $6.4 billion to $6.5 billion. The Street had expected significantly more. Sherlund, for example, had forecasted revenue to be $6.775 billion. Microsoft reported revenue of $6.59 billion. Also, although the profit picture didn't worsen, it didn't improve. Consider this: In mid-December, Sherlund reduced his fiscal 2001 earnings estimate by 4% to $1.80 per share, the low end of Microsoft's guidance. Investors reacted far more harshly. They cut Microsoft's stock by 11%, from $55.50 (exactly where it closed Thursday) to $49.19 the next day. Now, Microsoft isn't changing its earnings guidance for fiscal 2001. It isn't even issuing guidance for fiscal 2002, when it hopes to see significant revenue from its new XBox gaming products and Windows 2000 upgrades. And yet, if the stock climbs only by as much as it traded in the after-market Thursday, it will be up 20% from where it fell after the preannouncement. "The wheels didn't come off," allows Microsoft bear David Readerman of Thomas Weisel, who's been watching Mr. Softee as long as Sherlund has. Readerman notes that revenue was at the high end of the revised guidance and that year-over-year PC shipment growth will be above 10% for the current fiscal year, better than the single-digit growth some had feared. "The Street wants to believe the worst is behind us," says Readerman (like Sherlund a speedy emailer). "Now it is a valuation guess on fiscal 2002." And there, according to Readerman, is the rub. His earnings-per-share estimate for fiscal 2002 (ending June 30, 2002) is $2.10. At $59, Microsoft trades at 28 times its 2002 earnings. Given that Readerman sees earnings growth in fiscal 2002 of between 12% and 15% (his estimates over the top of Microsoft's range would yield 15% growth), Microsoft's shares have a price-to-earnings growth ratio of 2.3 to 1.88. "To me this isn't cheap, cheap,'" says Readerman, who
previously said that $50 would be a good place to buy Microsoft -- for patient investors. He says he'll maintain his market perform rating until estimates go up, which they will not after Thursday's call. In a general sense, I've always been high on Microsoft as a company in which to invest. Nothing's changed. But a company's problems aren't necessarily behind it just because it goes four weeks without its situation deteriorating.
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