Handset sideshow doesn't solve Microsoft's core problems

Facing the expiration of the distribution agreement with its main mobile phone licensee, Microsoft bought Nokia. The deal fulfills Steve Ballmer’s ambition to recast Microsoft as the next Apple by allowing it to vertically integrate downstream into hardware.

Here’s the key passage from Ballmer’s press conference Tuesday:

The company I joined 33 years ago was a company focused on software for personal computers. And software is a great skill and will always be a core strength of Microsoft. The PC is an important device, the most productive device on the planet, and will continue to be so. And yet for us not only to grow but for us to really fulfill the vision of what we can do for our customers, we've evolved our thinking.

We need to be a company that provides a family of devices in some cases we'll build the devices, in many cases third parties, our OEMs, can build the devices but a family of devices with integrated services that best empower people and businesses for the activities that they value the most.

Like the dog who caught the car, now what? Microsoft under its next CEO will be a hardware company, but is there any evidence it will be a successful hardware company?

One of the problems is that Microsoft had more than a decade to offer a compelling mobile platform. Its smartphone market share has been falling since before the iPhone and Android.

Now with Windows Phone 8, it has a good product, but so what? Four years ago, another dying mobile company — Palm — brought out an innovative device to great reviews, but it didn’t matter. Less than a year later, the company — the US smartphone pioneer and onetime market leader — was gone, like Nokia bought up at a firesale price.

Microsoft has already had a chance to try its fully integrated mobile strategy with its Surface tablet, which enjoyed great reviews and a huge marketing push. In one year, Microsoft spend $900m to advertise the Surface and WP8, but generated only $850m in sales and took a $900m write-off on inventory.

Fortunately for MSFT shareholders, Nokia’s handset division is available at a firesale price, less than 10% of the company’s cash on hand. Unfortunately, the man who ran the division into the ground will be heading it for Microsoft and is now a favorite to become Ballmer’s replacement

The deal would also reward Nokia’s CEO Stephen Elop, the ex-Microsoft executive who torched Nokia’s Symbian platform in favor of Windows, and led the failed effort to regain share using Windows. (In mid-2012, Nokia’s Symbian platform had a higher market share than Windows had then or now). Elop has shrunk the company , cutting the company’s market cap in half from $40b to $20b.

Perhaps Elop won’t rewarded for his Nokia failures, but the early betting is that Microsoft’s board (a captive of Ballmer and founder Bill Gates) will pick a conventional leader who, as the WSJ put it, “won’t rock the boat.” Because of this influence, the article predicts the board will go for more of the same, someone who can run a large bureaucratic Fortune 500 company, rather than a visionary leader who will break free from the lost decade of stagnation under Ballmer. The company needs a Lou Gerstner but (at best) will end up with another Lew Platt.

The problem is, Ballmer has historically confused monopoly profits with premium pricing. People pay more for Apple products because they want to; people pay more for Microsoft products when they have to, and they don’t if there’s a good alternative.

While Nokia didn’t get software, they historically were a hardware innovator with screen, cameras, sensors and other features. Now Samsung has assumed that mantle — along with overall market share leadership — while Apple remains the software and integration leader.

The Nokia deal will reduce near-term EPS and long-term profitability ratios. The company hopes to save $600m annually, presumably by laying off 3,000-5,000 workers. I would expect most of those would be in Finland, where Nokia has for the past few year playing a shrinking role in the local economy.

Even if Nokia is a modest success, it will at best replace Microsoft’s declines in its slowly dying PC business. Buying the former market leader — which now longer even ranks in the top 10 in global market share — won’t transform it into a major player in the industry. Given its huge cash hoard, Microsoft’s phone business will last longer than Blackberry’s, but that’s not saying much.

As with all such mergers, the odds of actual success are large. Two quotes from this morning’s WSJ illustrate the problem:

When executives "can't figure out what to do, they go buy something, particularly when they have a lot of cash," says Jeffrey Pfeffer, a professor at Stanford University's Graduate School of Business. "It seldom works."
…
Juan Alcacer, a Harvard Business School associate professor who has studied Nokia, says companies with small market shares typically "are in a bad position for a good reason." Combining two of them, rarely works, he says: "Two bad companies don't make a good company."

The stock has given back the gains that it had with Ballmer’s retirement announcement. Hopes that Microsoft would fix its broken corporate culture, becoming faster and more responsive are now dashed. We long-suffering Microsoft shareholders own a utility, that pays out a fraction of its declining monopoly profits with no replacement in sight.

Microsoft reorg: tragedy or farce?

There are many ways to interpret the massive “One Microsoft” reorg announced Thursday by Microsoft CEO Steve Ballmer.

One is as a corporate political drama. Mary Jo Foley (of ZDNet) and Sean Ludwig (of Venture Beat) report that winners include Terry Myerson (from head of Windows Phone engineering to all OS engineering), Qi Lu (head of online services engineering who adds Office) and Julie Larson-Green (head of Windows and Surface engineering, who adds Xbox and games). Losers are the presidents and CFOs of the five previous business units: Windows, Server and Tools, Microsoft Business Division, Entertainment and Devices and Online Services.

A second is as a plausible and sincere effort to revive Microsoft’s growth after more than a decade going sideways and now facing the collapse of the PC category that accounts for most of its OS an application profits. As the WSJ reported

Microsoft's restructuring follows a strategic plan, which began taking shape about a year ago, to shift its identity away from being a producer of operating systems and application software. Instead, the company wants to be known for devices—designed by Microsoft itself or by partners—and services that are closely tailored to work with that hardware.

The strategy shift, though it still relies heavily on software development, emulates the way rivals like Apple Inc. and Google Inc. have approached development of products such as smartphones and tablets.

The third way to view this is as reshuffling the deck chairs on the S.S. Titanic. JP Mangalindan of Fortune quotes an outside leadership consultant

"It's a great first step but won't get them to 'One Microsoft,'" says Randy Ottinger, EVP of the executive leadership strategy firm Kotter International. "The real question is what are they going to do post-reorganization to actually change the culture. The re-org will not change the way they behave and act because it's been years and years of doing business in a different way."

Similarly, Barb Darrow of Giga OM writes:

But it is crucial that the changes take direct aim at a long-running Microsoft problem: Fierce political infighting (see org chart diagram below.) When I covered the company day to day, the best way to get dirt on Office was to ask the Windows guys and vice versa. Clearly, after decades of that, and faced with huge and capable (and well funded) competition — Google, Apple, Amazon et al., Microsoft can’t afford to let that behavior stand.

and refers to a June 2011 cartoon contrasting Microsoft to Oracle, Facebook, Google and Apple (the latter updated after Steve Jobs’ death).

A fourth perspective is as an attempt to obfuscate a failed strategy by a failed CEO. As a Microsoft shareholder (NB: Dogs of the Dow), the only writer who seems to feel my pain is the anonymous Lex, writing 7,000 miles away at the Financial Times:

Everyone knows Microsoft’s challenge: its operating system and business software divisions account for 80 per cent of operating profits. These divisions’ core products were developed for personal computers. The PC is in decline, so those profits need protection or replacement. Investors deserve a clearer view of the strategy for doing that, and a reporting structure that allows them to see if it is working. While Microsoft’s overarching strategy has never been clear, its reporting structure has at least made it clear that, profit-wise, one product effort (server software) has been a smashing success while three others (online services, Xbox, phones) have been failures.

Any new structure must deliver at least that much clarity. And if Microsoft is committed to devices, investors should get systematic unit volume reporting. If software sales are becoming services sales, they should be told how the licence sales/subscription sales mix is shifting one quarter to the next. Failing this, they should assume the patient is unlikely to recover.

Most of all, I’m reminded of the Marxist saying that “History repeats itself, first as tragedy, second as farce.” Longtime Microsoft watchers are having a hard time in hiding the sarcasm in their skepticism. As the lead of the Business Week column observes

Microsoft Unveils Its Latest Reorg SpectacularBy Ashlee Vance July 11, 2013

Say this for Microsoft (MSFT) Chief Executive Officer Steve Ballmer: The man knows how to do a reorg, reorg, reorg.

Or even more to the point, Nitrozac and Snaggy capture this at the “Joy of Tech” cartoon. For maximum effect, read the whole cartoon, but here’s the punchline:

And then 2,700 words later:

So if I had to bet on tragedy or farce, “One Microsoft” looks more like farce.

Note to regular readers: Sorry for the delay in posting this, but I’m teaching this week in the KGI business bootcamp for life science postdocs.

Cartoon credits: Org chart by Manu Cornet, Bonkersworld.net; Steve Ballmer as rendered by Nitrozac and Snaggy of GeekCulture.com

Aboard the S.S. Ballmer

Microsoft’s success has always been about its alliances: Bill Gates lining up Basic licensees, the 1980 deals with IBM and Seattle Computer Products and (most importantly) licensing the IBM-funded DOS to all of Microsoft’s competitors.

With declining PC revenues, Microsoft is using its $50+ billion cash horde to buy friends. The Redmond company has created alliances with Nokia and Barnes & Noble in hopes of gaining a footprint in smartphones and low-end tablets. But into doing so, both companies have (for better or worse) paced on their platform bets on Microsoft’s (thus far) losing hand.

As part of my studies of Nokia’s smartphone strategy, I’ve been following the Microsoft-Nokia deal for several years. Tomi Ahonen has done a great job of covering how badly thinks have gone since Nokia threw away its (declining) smartphone lead and cast its lot with Microsoft.

However, the Barnes & Noble story is a different one. It has been searching for a viable tablet strategy for years. When it signed its surprising $300 million deal a year ago, it was losing its decade-long battle fight with Amazon over books, online sales, tablets and every else. The original 17.6% equity investment in the B&N spinoff of Nook Media was supplemented by a promise of $305 million in other payments.

Last week, rumors surfaced that Microsoft would pay $1 billion for the remaining shares of Nook Media. Barnes & Noble shares jumped on the news.

This would be the only good outcome for B&N: Microsoft gets a portfolio of online assets to fight Amazon, Apple and Google, and B&N gets some cash to prop up its dying retail business. To quote Steve Miller: “Go on, take the money and run!”

In the meantime, both Nokia and Nook Media are aboard the S.S. Ballmer without a lifeboat. Microsoft has known for 15 years that it needs a viable mobile strategy, and despite billions in R&D (and funds for products and alliances), has been unable to break single digit market share on either phones or tablets.

It’s not for nothing that Ballmer was named the worst CEO by Forbes a year ago, saying “"Without a doubt, Mr. Ballmer is the worst CEO of a large publicly traded American company today”. Ballmer was merely second worst in CNBC’s 2012 rankings. Both were before the recent Windows 8 fiasco exploded in the company’s face.

On Sunday, Al Lewis of Dow Jones cited yet another Ballmer critic:

Former Microsoft executive Joachim Kempin released a book timed to the Windows 8 launch last fall, called "Resolve and Fortitude: Microsoft's Secret Power Broker Breaks His Silence." In it, he, too, says Mr. Ballmer should be fired.

"He has no clue about technology," Mr. Kempin said in a telephone interview. "All the guys around him agree with him or they get fired."

Because of his long friendship with America’s second richest billionaire, his job has been secure thus far. As long as Ballmer remains at the helm, Microsoft (and Nokia and B&N) shareholders should expect more of the same.

Bill still wants to be Steve

Bill Gates still wants to be Steve Jobs — even though Steve is dead.

How else can we explain why Chairman Bill (or rather, his trusty sidekick and CEO, Steve Ballmer) is opening a new Microsoft store today in Valley Fair, the same Silicon Valley mall as one of the earliest Apple stores — the store where the media go to take photos of people lining up to buy an iPhone.

Today’s opening marks the 12th Microsoft store. (With a decade-long head start, Apple now has more than 300.) In 2009, Microsoft bragged it would open up retail stores “right next to Apple,” and 6 miles away from Apple HQ certainly counts.

However, Microsoft is bribing people (or rather celebrities) to generate traffic at both ends of the age spectrum. On Thursday, the QB of the first decent 49er team, 55-year-old Joe Montana, is making a 5pm appearance. On Friday, the 30-something duo The Black Keys is performing a free concert (free to customers, not to Microsoft) while on Saturday one of the teen heartthrob Jonas Brothers is doing the same.

I don’t see the point, but then I’ve never seen a Microsoft store and (other than an office suite) haven’t used their products for a decade. However, after visiting the LA store, Greg Sandoval of CNET wrote:

Offering techies a stage to show off power points isn't a bad way to get people in the store.

Still, Microsoft has a long way to go before challenging Apple. Not only does Apple dominate in the number of stores, but some doubt whether Microsoft possesses Apple's sense of style or can create the same first-class shopping experience—even with all the mimicking. There's also this: consumers shop at Apple because for decades now they have loved Apple products.

Microsoft hasn't been anywhere near so successful at duplicating that kind of customer loyalty.

Some “experts” claim we should want our kids to emulate Bill and not Steve. I think Steve did a better job of understanding — and more importantly, anticipating — what excited people, while Bill produced credible incremental improvements funded by monopoly rents. Now Bill is semi-retired to count his money and (ala Carnegie and Rockefeller) burnish his reputation for posterity.

Apple sans Steve Jobs will eventually lose that élan. That’s little consolation to shareholders of Microsoft, who’ve watched Steve Ballmer (charitably) lead the company sideways since taking over as CEO.

The retail strategy that worked for Steve Jobs is not going to work for Steve Ballmer. Apple store’s worked because (as Elaine Misonzhnik put it) “The stores are experiential rather than simply a machine for moving goods.”

Sony failed at retail stores because their products failed to excite people. With the important exception of Kinect, Microsoft has also failed to excite people as customers slowly defect from its platform to the Mac, tablets, Android, the iPhone and other non-Windows platforms. Among the 4Ps, Microsoft needs to focus on product, not place.

One CEO who subtracted value

Adding a new spin to a story about how Microsoft hopes to do a search deal with new Yahoo CEO Carol Bartz, a front page story on the Wall Street Journal this morning highlights all the ways that CEO Steve Ballmer missed the boat to challenge (or even pre-empt) his current rival for Total World Domination.

According to the story, Microsoft had two other chances to have its own equivalent of Google AdWords prior to last year’s failed attempt to buy Yahoo. The first was called Keywords, which a prototype service developed inhouse in 2000, and a few customers who signed up. The article has mini-profiles of Scott Banister, Ali Partovi and Bill Bliss, who once pushed the internal effort before giving up.

(The story of Microsoft killing Keywords reminds me of Apple killing “Star Trek,” a demonstration project that ported Mac OS to Intel chips 14 years before Apple finally made the switch. In my dissertation, I considered it emblematic of the poor executive leadership at Apple from 1985-1997.)

The second opportunity was a 2003 opportunity to buy Overture Services, a pioneer in targeting ads to search. The company was instead bought by Yahoo, and five years later was a major reason why Microsoft wanted to buy Yahoo.

Ballmer is supposed to the the more accommodating of the duo that ran Microsoft for near all of the past three decades. One might argue that he was the less visionary, but the article (and common sense) suggest that founder Bill Gates agreed with Ballmer on these decisions.

I think this illustrates two key points about CEOs knowing their own limitations.

First, it’s essential that top execs both encourage and support bottom-up innovation and initiative. This harnesses (and motivates) the talents of the entire company to support its growth, and recognizes that the boss can’t have all the possible answers. When they come up with a good (and feasible) idea, however, the executives have to give it a try — or you won’t get any more.

Second, success is dangerous because it both breeds complacency and locks executives into their winning paradigm. Gates and Ballmer were part of the PC generation, and (unlike their young engineers) couldn’t see that eventually software revenues would decline and be replaced by ads sales on the Internet. So if the CEO can’t adjust to understanding these new paradigms, (s)he needs to step aside for someone who can.

The Microsoft search miscues also have a subtheme about being willing to cannibalize your own revenues before someone else does, but that’s an old story — Microsoft’s major challenge since the triumph of Windows 95.

Ballmer is the nice one?

On June 27, Chairman Bill Gates of Microsoft shifts from five days a week to one. It will be the end of a long era in the PC industry, and one of the longest continuous periods of leadership for an tech industry entrepreneur. Ken Olsen of DEC comes to mind, but like Scott McNealy of Sun, it didn‘t end well; I suppose Larry Ellison will hang on for a few more years, just for the bragging rights over his über-nemesis.

Thursday morning, the WSJ had a long article on the close (but occasionally testy) relationship between Gates and his Harvard poker buddy, Steve Ballmer. (Official copy here, unofficial copy here).

There were some interesting revelations (like an abandoned attempt to buy SAP in 2003) and some familiar stories (like the role of Ray Ozzie in taking over Gates’ technical leadership of Microsoft, or Microsoft killing NetDocs long before Google documents came along). But the big point was the difficulty of Gates letting go:

Eventually, in January 2000, he gave his chief executive title to Mr. Ballmer. Mr. Gates became Microsoft's "chief software architect," a new position that, in theory, was below that of Mr. Ballmer.

Soon, the two men clashed as Mr. Ballmer tried to assert himself in his new job. As the firm's iconic leader, Mr. Gates still held sway that wasn't tied to a title: In meetings Mr. Gates would interject with sarcasm, undermining Mr. Ballmer in front of other executives, Mr. Gates and other Microsoft executives say.
...
Mr. Gates concluded that it was he who needed to change most. "Steve is all about being on the team, and being committed to the mutual goals," Mr. Gates said. "So I had to figure out, what are my behaviors that don't reinforce that? What is it about sarcasm in a meeting?" he said. "Or just going, 'This is completely screwed up'?"

Mr. Ballmer says that, as the top executive, he had to learn when to override decisions and when to just "let things go," he said. "We got it figured out," he said.

Soon, Mr. Gates started to hold back negative comments in meetings. During one deliberation among the executives who reported directly to Mr. Ballmer, Mr. Gates deferred to Mr. Ballmer on an important decision, prompting Microsoft executives to silently glance at each other with surprise, recalls Microsoft Vice President Mich Matthews.

Normally industry foes think of Ballmer as the prince of darkness — as with his famous “Linux is a cancer” comment. However, the article specifically said Ballmer “worked to settle Microsoft’s many lawsuits, taking a more conciliatory line than Mr. Gates typically had.” That implies that Gates saw the lawsuits as a personal affront to his baby, while Ballmer saw resolving them as just another business problem.

While there were interesting revelations, most of it was about the former CEO, who (supposedly) will be letting go in three weeks. It wasn’t as though there were great intimate insights into what makes Ballmer or Ozzie tick.

The other interesting post is from my friend, Prof. Shane Greenstein of the Kellogg School. Shane has a regular column in IEEE Micro, has penned a two-part retrospective on the three decades of Gates’ tenure. The basic question is: was Gates smart or just lucky? Shane leans towards the latter, but comes down firmly on the side of those who see Microsoft as abusing its market power over the past decade.

Here is Shane’s conclusion:

There is one enormous irony in the long arc of Gates’ managerial career. His temperament, savvy, and intellectual breadth are qualities that would have made him an extraordinary serial entrepreneur, founding one organization after another. Yet, the road he traveled was quite different: continual employment at a single firm for over 30 years.

That ultimately led to new types of challenges in a corporate setting and the singular tragedy of Gates’ career. He tried to retain the unqualified self-serving approach that had worked so well for him as an entrepreneur, even when the actions of a dominant firm required a different touch.

This also came up during the panel discussion Monday — Microsoft’s impression of its dominance lagging the reality until it was forced by various courts to back down.

Microsoft still has persistence, so if it can convince industry (and government) that it’s tamed its ruthless streak, perhaps it still has a few good years in front of it.