MILLBURN, N.J. (Stockpickr) -- I cannot tell you how often I hear someone say that Microsoft (MSFT - Get Report) should purchase such-and-such company.

There is no doubt that Microsoft, which shows up on a recent list of Stocks Set to Rebound in the Second Half of 2011, is one of the most cash-rich companies in corporate America and the world, with about $50 billion in cash and short-term investments and another $11 billion or so in long-term investments. Typically, long-term investments are government or investment-grade corporate debt that matures in greater than one year.

Offsetting all of that wealth is nearly $12 billion in debt. Needless to say, Microsoft has a significant amount of liquid capital at its disposal. Furthermore, Microsoft's stock has a market capitalization of just under $210 billion, which only adds to its ability to acquire another company.

This raises the questions:

  • What companies should Microsoft acquire?
  • What companies should Microsoft spurn for acquisition?
  • First we need to understand exactly what Microsoft does. The company operates five segments:
    1. Windows: the operating system and related software for personal computing
    2. Servers and Tools: technological solutions and tools IT professionals
    3. Business: software and services for enterprise users
    4. Online Services: search and display advertising using Bing and MSN
    5. Entertainment and Devices: XBOX and Windows Phone for mobile devices

    The first three businesses listed above are Microsoft's strengths while the last two are less-than-stellar performers that trail many of the market leaders. Microsoft is glaringly absent or deficient in several up-and-coming segments of technology.

    Related: 5 Short-Squeeze Plays That Could Rally

    With that in mind, what acquisitions make sense and which ones do not for Microsoft? Here's a look at a few companies Microsoft should consider buying -- and a few it should steer clear of.

    What Not to Buy

    There's some buzz that Microsoft has to buy Nokia ( NOK - Get Report) or Research In Motion ( RIMM). Microsoft could easily purchase Nokia, with a market capitalization of $22 billion, or Research In Motion, with a market capitalization of $15 billion. The rationale behind those recommendations is that Microsoft is too far behind -- practically absent, even -- from the mobile telecommunications and tablet computing market and needs to do something fast.

    I agree that Microsoft is way behind, but both Nokia and Research In Motion are both seeing their dominance in the handheld market shrinking rapidly. Furthermore, Research In Motion's entrance into the tablet market, the Playbook, is likely to be to the iPad what Microsoft's Zune was to the iPod.

    Research In Motion was recently highlighted in " 5 Big Losers Ready to Bounce," while Nokia shows up on a recent list of Value Stocks Buffett's 'Mr. Market' Hates.

    In this case, Microsoft would be aligning itself with companies and products that the public has spurned. The only synergy for Microsoft would be with Research In Motion, which like Microsoft has a huge installed enterprise business -- but that does not solve its mounting consumer-based issues.

    Some may believe that the way to beat Apple ( AAPL - Get Report) is to try to duplicate its business model of producing its own hardware, operating system and software. The seemingly logical conclusion there would be that Microsoft should buy Hewlett-Packard ( HPQ - Get Report), which on paper may seem the perfect strategy for vertical integration.

    Hewlett-Packard has made inroads into the wireless technology business with its Palm acquisition, but, alas, Palm is in even worse shape than Research In Motion and Nokia. Hewlett-Packard has also made forays into cloud computing, but, as I will discuss later, there are far better potential cloud acquisitions. Yes, Hewlett-Packard has a great printer business, but its personal computer business is exhibiting wear and tear, likely losing market share to Apple. Hewlett-Packard joins RIM and Nokia as a company Microsoft should steer clear of.

    HP shows up on a recent list of 5 Laggard Tech Stocks Set to Rebound.

    What to Buy

    In early 2008 Microsoft, made a play for Yahoo! ( YHOO). At the time, Microsoft was willing to pay $31 per share, or nearly $45 billion, for the Internet company. Yahoo! rejected Microsoft's overture as inadequate. Many market commentators and investors attributed the rejection to hubris on the part of board of directors and then-CEO Jerry Yang. Microsoft upped the ante by $5 billion, and that offer was also rejected. Then Microsoft walked away.

    The two companies then entered into some half-baked joint venture. Jerry Wang stepped down, and the company hired Carol Bartz as his replacement . Yahoo! has struggled ever since, and the stock now sits at less than half of Microsoft's original offer and carries a market capitalization of $19 billion.

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    The funny thing is that I believe Yahoo! makes a good fit for Microsoft. Once you strip out some of Yahoo!'s noncore investments, such as Alibaba and Yahoo! Japan, you have a good business at a cheap price. Yahoo! has excellent content and is a leader in display advertising, a good fit for Microsoft and something that Microsoft could build off of and integrate its lackluster Bing product into. And now Microsoft would get all it wanted to three years ago at about half the price.

    Yahoo! shows up on a recent list of Hedge Fund's Biggest Buys and Sells.

    The next suggestion, Adobe ( ADBE - Get Report), is a great fit for Microsoft, though this might also face a great deal of regulatory scrutiny. Adobe is best known for four main products: Flash, Acrobat, Photoshop and Creative Suite. All of these are industry-leading software products used by consumers, governments, enterprises, educational institutions and professional multimedia designers. They would fit perfectly into Microsoft's portfolio of products and get the company front-and-center onto Apple's Mac platform, from which Microsoft needs to win back users that it continues to lose. Microsoft has its One Note product, but that is widely disregarded by computer users.

    Adobe sells for 13 times current-year earnings estimates and grows earnings in the mid-teen percentages. The company sells for a market capitalization of about $15 billio,n which would be easy for Microsoft to bite off and chew.

    The world is going digital when it comes to entertainment. Apple knows this. Netflix ( NFLX) knows this. But Microsoft seems to be blind to this technological revolution. The company needs to act now or find itself even further behind the curve. One interesting name in the space -- and a stock I own -- is Rovi ( ROVI), which offers a range of products that enable consumer electronics manufacturers, service providers, content publishers and entertainment Web portals to deliver digital entertainment to consumers.

    A few months ago, Rovi acquired Sonic Solutions, not long after Sonic Solutions purchased DivX. Rovi's intellectual properties make it a leader in technologies such as interactive television and digital entertainment. The company is constantly entering into licensing agreements with consumer electronics, cable, entertainment and technology companies. The stock sells at 22 times earnings, which is reasonable and perhaps cheap for a company growing at a percentage rate in the high teens to low 20s. With a market capitalization of $6 billion, Microsoft can easily pay $8 billion to $10 billion in cash for Rovi.

    Rovi shows up on a recent list of 10 Top-Performing Technology Stocks.

    Finally, Microsoft needs to get its head in the cloud. There is no doubt that cloud computing is going to grow and evolve rapidly. Microsoft cannot afford to build a cloud computing solution from scratch. The company needs to use its treasure chest of cash to take decisive action now. As we recently saw, the company's arch nemesis, Apple, has already taken steps to operate from the cloud.

    There is a long list of companies that Microsoft could gain a quick and effective entrée into the cloud computing space. Here are a few to choose from:

  • Salesforce.com (CRM - Get Report), with a P/E of 109 and a market cap of $19.1 billion

  • Riverbed (RVBD), with a P/E of 39 and a market cap of $5.4 billion

  • F5 Networks (FFIV - Get Report), with a P/E of 29 and a market cap of $8.6 billion

  • Rackspace (RAX), with a P/E of 80 and a market cap of $5.2 billion

  • Citrix Systems (CTXS - Get Report), with a P/E of 31 and a market cap of $14.3 billion
  • Any of these companies should be worthy of consideration by Microsoft as an acquisition target.

    -- Written by Scott Rothbort in Millburn, N.J.

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    At the time of publication, author was long AAPL stock and calls and ROVI stock.

    Scott Rothbort has over 25 years of experience in the financial services industry. He is the founder and president of LakeView Asset Management, a registered investment advisor specializing in customized separate account management for high net worth individuals. In addition, he is the founder of TheFinanceProfessor.com, an educational social networking site, and publisher of The LakeView Restaurant & Food Chain Report. Rothbort is also a professor of finance at Seton Hall University's Stillman School of Business.

    At the time of publication, author was long AAPL stock and calls and ROVI stock, although positions can change at any time.

    Scott Rothbort has over 25 years of experience in the financial services industry. He is the Founder and President of LakeView Asset Management, a registered investment advisor specializing in customized separate account management for high net worth individuals. In addition, he is the founder of TheFinanceProfessor.com, an educational social networking site; and, publisher of The LakeView Restaurant & Food Chain Report. Rothbort is also a Term Professor of Finance at Seton Hall University's Stillman School of Business, where he teaches courses in finance and economics. He is the Chief Market Strategist for The Stillman School of Business and the co-supervisor of the Center for Securities Trading and Analysis.

    Mr. Rothbort is a regular contributor to TheStreet.com's RealMoney Silver website and has frequently appeared as a professional guest on Bloomberg Radio, Bloomberg Television, Fox Business Network, CNBC Television, TheStreet.com TV and local television. As an expert in the field of derivatives and exchange-traded funds (ETFs), he frequently speaks at industry conferences. He is an ETF advisory board member for the Information Management Network, a global organizer of institutional finance and investment conferences. In addition, he is widely quoted in interviews in the printed press and on the internet.

    Mr. Rothbort founded LakeView Asset Management in 2002. Prior to that, since 1991, he worked at Merrill Lynch, where he held a wide variety of senior-level management positions, including Business Director for the Global Equity Derivative Department, Global Director for Equity Swaps Trading and Risk Management, and Director for secured funding and collateral management for the Global Capital Markets Group and Corporate Treasury. Prior to working at Merrill Lynch, within the financial services industry, he worked for County Nat West Securities and Morgan Stanley, where he had international assignments in Tokyo, Hong Kong and London. He began his career working at Price Waterhouse from 1982 to 1984.

    Mr. Rothbort received an M.B.A., majoring in Finance and International Business from the Stern School of Business, New York University, in 1992, and a B.Sc. in Economics, majoring in Accounting, from the Wharton School of Business, University of Pennsylvania, in 1982. He is also a graduate of the prestigious Stuyvesant High School in New York City. Mr. Rothbort is married to Layni Horowitz Rothbort, a real estate attorney, and together they have five children.