Will New Microsoft CEO Allow a Change in Windows Strategy?

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Microsoft (NASDAQ:MSFT) announced Tuesday morning that Chief Executive Officer Steve Ballmer will be replaced by an insider, Satya Nadella, the company’s executive vice president of cloud and enterprise. Bill Gates — who founded the tech giant with Paul Allen in 1975 — will step down as Chair and become a technology adviser to Nadella, a 22-year veteran of Microsoft, with current board member John W. Thompson succeeding him. The software maker will also soon have a new board member — Mason Morfit, the activist Mason Morfit, the president of activist shareholder ValueAct Holdings. Like Nadella, whose appointment was effective immediately, Morfit has big plans for Microsoft.

Morfit wants Microsoft to break an important tradition: how it markets its operating system Windows, the software on which most of the company’s other offerings rely. Windows is Microsoft’s bread and butter, and for decades, the technology company has focused creating applications and server software that supports the Windows ecosystem.

Nadella is taking the helm of Microsoft at a critical juncture. At one time, the company dominated the technology industry, holding a 93 percent share of the consumer-computing market. But since 2000, competition from rivals like Apple (NASDAQ:AAPL) and Google (NASDAQ:GOOG) — companies better positioned to profit off technology’s turn to mobile computing — has left Microsoft playing catch up amid the epic decline of the personal computer market. Now, with consumer dollars increasingly being spent on mobile devices rather than personal computers, Microsoft has less than a 5 percent share of each of the tablet and smartphone markets. Further, the changing trends has put the company’s main source of income — Windows — in jeopardy.

Gates built the company on the principle that if the software was designed well enough, success would follow. That strategy worked for decades, but now more is needed. To ValueAct, the right course of action is unchaining products and services from Windows so they can be more widely adopted on smartphones and tablets, meaning programs like Microsoft Office, which typically runs on Windows, could be used on devices running Apple’s iOS and Google’s Android. For reference, Samsung (SSNLF.PK) alone — with devices operate Android — captured nearly a third of the global smartphone market, while Apple held a 15 percent percent share. In terms of tablets, the top three vendors — Samsung, Apple, and Amazon (NASDAQ:AMZN), with Kindle employs a forked version of Android — hold a 60 percent market share. If users of these devices could easily get Microsoft software on their devices, the company would be a much bigger player in mobile computing, mitigating the company’s dependence on personal computer sales. This strategy could mean growth for the software maker.

Since Microsoft is both at a critical juncture and a new chief executive is just now taking the reigns, Morfit is joining a company in transition. Plus, this quarter, the software company’s 5.44-billion-euro, or $7.2-billion, acquisition of Nokia’s (NYSE:NOK) device and services business will be completed. Currently, Nokia’s Lumia is the primary operator of Windows Phone.

In general, Morfit wants Microsoft’s focus to be software. Like numerous analysts on Wall Street, he believes Microsoft is too big to be competitive and therefore should emphasize enterprise and cloud business while selling or scaling back consumer product operations like its search engine Bing and its gaming platform Xbox. The Xbox game console in particular is saddled with expensive marketing and manufacturing costs, sources told Bloomberg.

Through individuals familiar with Morfit’s plans, the publication learned that ValueAct’s activist playbook calls for the investor to push for this agenda by both persuasion and data. Data especially can be used to make tough points and convince the company to change course, the sources said. Morfit’s thinking — which is quite different that strategies pursued by Carl Icahn and Bill Ackman — is evident in several speeches he has given. “We have found over time that the most effective way to get what you want accomplished is behind the scenes,” the investor said during a 2012 lecture series at Stanford University’s corporate governance center. “For us, it’s just a truism that people will do what you want if they like you and if you haven’t publicly humiliated them.”

The good news for Morfit is the Nadella’s experience in enterprise software and the cloud corresponds with many of the areas ValueAct wants Microsoft to pursue. Earlier in its history, the company took “into account their ambitions first and wishes of shareholders second,” Loomis Sayles & Co. analyst Tony Ursillo told Bloomberg. But now things may change and Microsoft may have to be more responsive to shareholders, added Loomis analyst Joe Esposito. An email to the publication from Microsoft last week did little to clarify the situation. “Microsoft’s board of directors and management team welcome the perspectives of shareholders. We are committed to enhancing value for all shareholders, and will continue to take actions that we believe will enable us to achieve this objective.” ValueAct holds only a 0.81 percent share in Microsoft.

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