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Money Morning subscribers who read our Leaders to Laggards series on the flagging fortunes of Microsoft Corp. (Nasdaq: MSFT), Intel Corp. (Nasdaq: INTC) and Cisco Systems Inc. (Nasdaq: CSCO) weren't surprised by subsequent developments, since we told you exactly what to expect.
The Leaders to Laggards articles described how each company's failure to anticipate changes in their markets undermined their ability to grow revenue. Consequently, their stocks – which many investors rode to massive profits in the 1990s – have languished for the past decade.
Those tribulations have continued since the publication of our series. Microsoft and Cisco have struggled mightily, and as predicted, only Intel has managed to make headway.
Why Intel Is Still a 'Buy'
Intel surprised Wall Street with better-than-expected earnings last week – its standout divisions pointing the way to the future growth that for years had eluded the company.
Profits were up 2%, while revenue jumped 21% year-over-year. And gross margins edged up to 64% from 61% in the previous quarter.
Revenue from data centers, which provide the infrastructure for the cloud-computing trend that is now beginning to dominate mobile devices such as tablets and smartphones, was up 15.2% and accounted for nearly 20% of total sales.
Intel sees data centers as a major source of growth. The company expects sales to rise to $10 billion this year and to $20 billion within five years.
An even bigger surprise was the strength in the chipmaker's PC business, which accounted for 64% of Intel's revenue. Sales of the PC division rose 11% despite sluggish growth of about 2.5% in the overall PC market.
"We knew that there would be strength in the servers, but to see double-digit growth in their PC unit is great," Michael Shinnick, a money managerat Wasatch Advisors Inc.,told Bloomberg News.
Intel spooked the market last week when it dropped its forecast for PC sales in 2011 to 8% to 10% from the low double digits. However, the company's healthy performance reflected unusually strong demand from emerging markets, including Brazil and China.
Intel had mixed results in its one area of concern – chips for mobile computing devices. Although revenue from its Atom chip division fell 15%, unit sales were up 76%. Most mobile devices use chips from rival ARM Holdings PLC (Nasdaq ADR:ARMH), although Intel has vowed to become more competitive in this segment.
Even if Intel's PC chip business eventually starts to wane – and it likely will – cloud computing could be just the growth engine the company needs. Its data center business is already accelerating and its mobile computing business has an excellent chance of increasing market share when it launches new chips based on its breakthrough Tri-Gate technology.
Intel shares have risen only 2.5% since the Leaders to Laggards series appeared, and its Price/Earnings (P/E) ratio is a modest 10.62. The stock closed at $23.13 on Friday.
Intel remains a "Buy."
Microsoft Muddles Along
Microsoft's June quarter earnings, which beat expectations with a 30% increase in profits, looked impressive at first blush.
But under the pretty wrapping was something distinctly unappealing. Revenue from the Windows division fell 1%. That's the third straight quarter the once high-flying label has disappointed.
With every quarter it becomes increasingly clear that the heady days of Windows growth are over. Demand continues to shift to mobile products – tablets and smartphones – where Windows is a marginal player.
"All eyes are on Windows and how they are ultimately going to extend this franchise in the future, as the PC business continues to lose share to the tablets," Josh Olson, technology analyst at Edward Jones, told Reuters. "Microsoft is really a show-me story in terms of its ability to extend its core flagship products to these new growth platforms."
Its deal with Nokia Corp. (NYSE ADR: NOK) to get Windows on that company's smartphones could help in the mobile segment, but Nokia's market share is plummeting.
Still, Microsoft did beat expectations with a nice pop in net income. The software giant made 69 cents a share, up from 51 cents a share in the year-ago quarter. Revenue was up 8.5%, to $17.37 billion from $16 billion a year ago.
The strength came from sales of its Office productivity software, which were up 7% and accounted for more than half of Microsoft's profit. The company's Servers and Tools division chipped in with a 12% increase in sales.
"Their status within the enterprise, broadly speaking, remains quite strong," Gregg Moskowitz, an analyst at Cowen & Co., told the Wall Street Journal.
Microsoft also got a welcome boost from its Entertainment and Devices Division, which makes the popular Xbox 360 gaming console. That division, which lost $172 million in the year-ago quarter, added $32 million to the bottom line in the June quarter on revenue of $1.49 billion.
Surprising no one, the money pit Microsoft calls its online services division – Bing and the MSN Web portal – lost $728 million. That division cumulatively has lost $8.5 billion in nine years.
So while Microsoft still has plenty of ability to make money, particularly from its business customers, the weakening performance of its Windows division – and the inability of its smaller divisions to compensate – means the stock has little upside.
Shares of Microsoft are up 3.32% since the Leaders to Laggards series, but are unlikely to go much higher unless the company figures out how to get a much bigger slice of the mobile computing market. It closed at $27.52 Friday.
For now, Microsoft is a "Hold."
Of the three former giants, Cisco continues to be in the worst shape.
The company announced on July 18 that it would shed 6,500 of its 73,400 workers, and would sell a manufacturing facility in Mexico to Foxconn Technology Group (PINK ADR: FXCNY) to subtract another 5,000 jobs from its budget.
Although Cisco doesn't report earnings until Aug. 10, this news does not bode well. The firm has posted four straight disappointing quarters, and has already said that revenue for the June quarter will be flat to 2% higher year-over-year.
Investors won't be satisfied with growth that anemic.
"That's just simply not enough for a company of this size," Alex Henderson, an analyst at Miller Tabak & Co., told Bloomberg Television. "They need to get the top line growth up into the 5% to 15% vicinity in order to be able to produce leverage off these cost cuts, and I don't see that happening near-in."
Since the Leaders to Laggards series ran, Cisco's stock has done little, although the news of the 15% reduction in its workforce did push shares up about 1.5% (CSCO closed at $16.46 on Friday). Although the company announced in May that it would reduce its workforce, the number was higher than analysts had expected.
Still, the job cuts don't address the root of Cisco's woes – aggressive competition in its core networking businesses of switches and routers has left the company with the nasty dilemma of either cutting prices or losing market share.
"This cost-cutting move buys you some time, but it doesn't solve the problem," Henderson told Bloomberg Television. "So you've got about 6 to 12 months. If you don't get it solved by then and get the top line going, there will be more restructuring charges down the line."
The workforce reduction is part of a larger cost-cutting and restructuring strategy aimed at putting Cisco back on the path to growth but, as we pointed out in our series, this company's road to recovery will be a very long one.
"While recent moves to streamline management, trim costs by $1 billion and refocus on its core business will help stabilize the company, real growth will remain elusive, which will keep this stock in the doldrums," the Money Morning report concluded.
We still consider Cisco a "Sell."
News and Related Story Links:
- Money Morning:
Once the Planet's Most Valuable Company, Cisco Systems Inc. (Nasdaq: CSCO) Now Seeks to Rebound From a Decade of Stagnation
- Money Morning:
To Awaken a Sleeping Giant: After Missing the Mobile-Computing Boom, What's Next For Intel Corp. (Nasdaq: INTC)?
- Money Morning:
After a Decade of Miscues, Can Microsoft Corp. (Nasdaq: MSFT) Hook Up With the Mobile Revolution?
- All Things Digital:
Intel: Corporate Sales Strong, Consumer Not So Much
- Bloomberg News:
Intel Sees Quarterly Sales Beating Estimates on Company Computer Upgrades
With Disappointing Microsoft Windows Sales, Investors Renew Concerns over Growth
- The New York Times:
Microsoft Posts a 30% Increase in Profit, but Sales of Windows Are Weak
- Bloomberg News:
Cisco Plans to Cut About 6500 Jobs, Take Pretax Charge Up to $1.3 Billion
Cisco to cut workforce by 15 pct, sell factory to Hon Hai