MSFT's $6.2B Failure: Should They Get Out of Search? - Barron's (blog)

By Tiernan Ray

Analysts are mulling Microsoft's (MSFT) announcement last night it will take a $6.2 billion write-down to goodwill to reflect the underwhelming payoff from its 2007 purchase of ad network aQuantive, which was supposed to help Microsoft's "Online" division, the part of the business that includes its Bing search engine.

Note that Microsoft in last night's release did have positive things to say about Bing and other aspects of online, thought growth has not been what the company expected.

The overall response is a shrug of the shoulders.

As I noted last night, the online division has been a drag on Microsoft results for some time, so the epitaph in the form of the charge seems to be merely acknowledging what many thought.

Indeed, CLSA Asia-Pacific Markets's Ed Maguire, who has a Buy rating on Microsoft shares, calls it "dousing a flame-out."

Maguire writes that it's all basically water under the bridge. He does note, too, though, that the implosion of the aQuantive deal doesn't help the overall image of Microsoft's deal-making prowess:

Microsoft's write-down … is explicit acknowledgement the deal failed.  aQuantive's ad platform was intended to boost Bing's revenue prospects on the heels of Google's April 2007 acquisition of DoubleClick. In hindsight, this was a "me-too" deal that benefited sellers and bankers, but did little to advance Microsoft's search business [...] Investors will be justifiably skeptical of Microsoft's apparent lack of M&A valuation rigor, particularly given subsequent premiums for Yammer and Skype.  Nonetheless, we regard the aQuantive charge as "water under the bridge" and expect the impact on fundamentals to be de minimis.

For example, Angelo Zino of S&P Capital IQ this morning reiterated a Strong Buy on Microsoft shares, writing that "We are not surprised by the writedown, given the lackluster results from this business segment in recent years."

While we see further operating losses for the Online Services Division segment, we note the business only represents about 4% of sales. This segment remains the biggest drag to MSFT's financial performance, but we expect it to help support other platforms

However, there are others willing to find deeper implications in the latest development.

Nomura Equity Research's Rick Sherlund, who has a Buy rating on Microsoft shares and a $37 price target, today characterizes the write-down as something of a retreat from the search business for Microsoft.

Most investors would be happy to see Microsoft simply sell the online business to Facebook (FB), writes Sherlund.

Microsoft might just as well get out of search, he suggests:

We estimate that Microsoft will show a loss of $2.0 billion (before this charge) in its online business this year (mostly Bing). We sense a tidal shift away from the online business in favor of reducing losses and shifting investments to more strategic areas, particularly as the ability to drive higher revenue per search monetization has proven more challenging over the past 2 years than was expected. We think it is important and complementary for Microsoft to be able to drive monetization from some of its businesses that drive search and display advertising, but we are not convinced Microsoft has to be in the search business itself, when others can pay a TAC back to the company.

To a certain extent, Sherlund's contention echoes remarks he made when a rumor floated on April 12th that Microsoft might be considering simply giving Bing to Facebook.

It later turned out that rumor had originated from a recently published biz lit text, The Facebook Pitch. However, Sherlund obviously still thinks the idea is not a bad one.

(Would that be music to the ears of the folks at Google (GOOG), or would a newly armed Facebook be an even more serious challenge to the search giant?)

Israel Hernandez with MKM Partners today reiterates a Neutral rating on Microsoft shares and a $35 price target.

In addition to cutting his estimates for Microsoft for the quarter just ended, and for the current year, he gave brief mention to the write-down:

While embarrassing, we do not view the write-down as a material an event for the stock price as it is a non-cash charge and does not directly impact our financial projections. We believe most investors will exclude the charge from reported results when Microsoft reports 4Q12 results on July 19th. On a GAAP basis, the charge reduces our EPS estimate to $0.04 from $0.69 for 4Q12.