Microsoft made the case for the future of the Xbox at a splashy unveiling last week, but one well-known Wall Street analyst isn’t convinced the console business is even worth keeping.

xboxRick Sherlund, the Nomura Equity Research analyst who has covered the Redmond company since it went public, says in a report this morning that the Xbox “doesn’t seem like a good enough business for Microsoft to focus on.” He says the company should consider shopping the Xbox business to a consumer electronics company such as Samsung.

[Follow-up: Should Microsoft sell its Xbox business? Sorry, but it's probably too late]

Sherlund also says in the note that Microsoft should look into selling its Bing search engine to Facebook or Yahoo, reducing its substantial operating expenses and generating revenue instead from referring search traffic to the buyer.

Those are two of the more attention-grabbing assertions in the report, in which Sherlund says the potential for change at Microsoft is increasing. He writes, “There may be a shift in the wind upcoming for Microsoft, with shareholders potentially demanding a greater say in the direction of the company and how it might be run to drive a better return to shareholders.”

Microsoft isn’t commenting on Sherlund’s analysis. In general, the company has made the case that the Xbox and Bing businesses have strategic value beyond their short-term contribution to (or subtraction from) the bottom line. Microsoft’s Frank Shaw last week outlined the company’s view of Xbox One as a hub for a variety of Microsoft services in the living room.

[RelatedXbox One: How Microsoft is trying to change the game]

As part of his report, Sherlund says Nomura is increasing its price target for Microsoft to $38, from the previous $32, “not on fundamentals but rather on our view that there may be much more focus on shareholder value as a result of potential shareholder initiatives.”

Sherlund points to catalysts including the disclosure by ValueAct Capital that it has acquired about 1 percent of Microsoft’s shares. He writes, “With Microsoft’s shareholders likely frustrated with the share price, we think there may be reason to expect that ValueAct could leverage a 1% position with the support of others to advance their agenda for change.”

ValueAct’s Jeffrey Ubben has said he wouldn’t publicly campaign for changes in Microsoft’s strategy, but he also believes Microsoft should make Office more widely available beyond Windows. Sherlund echoes that sentiment in his report this morning.

Sherlund writes, “We believe there are many iPad and Android tablet users that would be willing to pay a monthly subscription fee for Office were it delivered on these platforms. Since Office is not available, users are finding substitutes such as Evernote, DropBox, Pages or Google Docs etc. This is bad – Office is being disenfranchised on the hottest growth platforms.”

Here is more from Sherlund’s comments about Xbox …

Xbox is one of the areas of success for Microsoft and is cool to consumers, but it is perhaps time to assess whether this can ever be material to the overall company and might be more leveragable to a consumer-oriented company such as Samsung. Perhaps they would be willing to pay several billion dollars for this to leverage their substantial consumer electronics business? Shareholders might want to know if they could possibly be better off if Xbox were spun out as a separate company or sold. Either way, it is not that material to the overall valuation of Microsoft and will not likely determine the success of Microsoft going forward; it’s just not profitable enough to move the needle that much at the company.

And an excerpt from his comments on Bing …

While we like Bing as a service, we need to look at this from an ROI and strategic perspective. If Microsoft could sell or even give Bing to Facebook or Yahoo and eliminate its operating costs and get a Traffic Acquisition Cost (TAC) back to monetize the traffic that Windows/Internet Explorer or Xbox in the living room can drive to Bing, this might generate perhaps $1.0bn of profit and positive FCF rather than be a drag of a similar magnitude. If this were returned to shareholders, this could add nearly 1% incremental to the dividend yield, in our estimation.

Previously on GeekWire: How to break up Microsoft: Maybe it’s not such a crazy idea

Comments

  • http://frugalmechanic.com/ Eric Peters

    That 1% for the dividend yield, while a nice little bump seems to be a very short sighted view

    • http://www.facebook.com/dschlicker Derek Schlicker

      Any advice from an analyst covering the stock of course has skewed incentives. They want to do anything that will pump the stock (short term/long term, doesn’t matter to them). I get that this is news but its blatantly obvious nothing will come of it other than this guy getting linked to on a few blogs.

      • guest

        The same could be said of Apple shills. Sherlund was actually quite negative and recommending investors avoid the stock about a month or so ago. So your criticism is misplaced.

        • http://www.facebook.com/dschlicker Derek Schlicker

          Share price is largely irrational and driven by trading done by computers. Price is impacted much less on actual performance of the company or any one product within the company than you’d think. It has more to do with the technical position of the stock (a self-fulfilling prophecy) and on news. That applies to all tickers, not just MSFT or AAPL.

  • Zicoz

    So he’s simply ignoring that both Bing and Xbox are important to other parts of the companies?

    • Guest

      Yes, Wall Street analysts don’t buy the apologetic BS that fanboys readily do. They look at the bottom line over time, and quite frankly, their patience is probably at an end. It’s been over a decade now for both, Xbox and search. Eventually these branches ought to return some profit, don’t you think?

      • Rann Xeroxx

        You talk as if the “fanboys” are the only ones with an agenda. Is this analysis short selling MS stock, looking for short term stock gain, has portfolios in companies to buy these spun off businesses, telling is real customers to buy Sony stock, etc.

        In other words, why would you believe ANYTHING that comes out of Wall Street. In the past 30 years they have show no regard for anyone but themselves and their insiders. Same with D.C. (as they seem to be one in the same nowadays).

      • Zicoz

        A product doesn’t have to make a profit in itself for it to be valuable to a company. Take Bing for instance, the work that the division that Bing is a part of feed over into Windows Phone, Xbox and Windows. Stuff like that doesn’t show on the bottom line for Bings division, but it helps improve their products overall.

        Bing also helps then work with companies like Yahoo and Facebook, if they just sold Bing off to one of these companies, they would have a harder time working with those companies, and they would also probably have to license the stuff that they just sold back from said company.

        And we currently have both Apple and Google trying to get into the living rooms of people, why on earth would Microsoft sell of a product that is already at a spot that their competitors could only dream of being.

        Also, Wall Street are a bunch of “idiots” that only manages to think about to make money for themselves short term. Microsoft has been making more and more money each year (apart from one year I think it was 2009) yet their valuation of the company has been cut in “half” since the change of the millennium. So it’s obviously not the bottom line that is the issue for the stock owners.

        • Guest

          Duh, the bottom line is only part of the equation. That’s Economy 101. Overall potential is important as well. And the potential for success is pretty dire. Similar for Apple, which is why they experienced a devaluation. You can all complain about Wall Street, but that won’t change that they have a pretty good feel for profitability. And if they are way off with their valuation, someone else will take advantage of that. Nobody has in MS’s case, for a decade!

          • Zicoz

            Luckily Microsoft is smart enough to buy back their own stock.

          • Guest

            Because a free market is incapable of seeing financial opportunity? Congrats, you just set a new record for MS apologists.

          • guest

            I’m not sure torching more than $100B of shareholder cash in an unsuccessful attempt to rally the stock was all that smart. Even management now seems to agree, since they’ve cut back dramatically on buybacks in recent years.

      • Joe_HTH

        ROTFLMAO! First of all, analysts are a dime a dozen and a complete waste of space. Everytime they cash a check, they’re stealing money. They’re wrong far more often than they’re right, and they can’t force Microsoft to do squat. They have no power whatsoever, and neither do shareholders really.

        Secondly, Xbox is profitable and has been for years you idiot. Bing has still not turned a profit, and I can see selling it as being a viable option, but I sure as hell can’t see selling Xbox as anything other than stupid.

        You need to educate yourself.

        • Guest

          Why do MS apologists always resort to personal insult? Is that required in your shill manual? Xbox still isn’t profitable over its lifetime. So MS would have been better off to put the money into a savings account. Seems like you’re the idiot – or worse, a MS shill.

  • Rann Xeroxx

    Wall Street analysis have been sooooo reliable thus far /sarcasm.

    If MS were not in the console business then it would not be in their best interest to get into it. But since they have already made that investment, they might as well leverage it to gain traction in the living room to off set things like Apple TV. Same with Bing, MS is using all that tech within their other products for search and thus gain “synergy” (yes, i just buzzed that).

    Actually I think both Google and Microsoft are posed to dominate the next 5-10 years of tech. Not so sure about Apple, their best days might be behind them unless they start showing that Jobs era of innovation.

    • christianhgross

      This is what I find amazing about tech folks. I still develop today, but I have an understanding of finance. Microsoft is not poised to dominate anymore because they can’t . I suppose you are not looking at their failures like, phone, win 8, search engine, etc, etc. the only thing that makes them money is windows old edition, office and a few server products. The rest is dead weight. And the argument that Microsoft needs a full solution is getting old. Take the MIA of office on android and iOS example. The yolk of windows is holding back Microsoft making more money. If this is not a bad managerial decision then I don’t know what is.

  • lubba

    Why didn’t this clown say this a couple years ago when Xbox was #3? I’m not an ana-lyst but this just seems suspicious and odd. MS just revealed the next iteration of Xbox!

    • Guest

      And you gotta admit it appears pretty dull. Maybe now’s the time to sell, before it becomes a fiasco.

  • counterblow

    Sherlund, let me say what Steve Ballmer can’t: “Shut the fuck up, you stupid fucking idiot.”

    • Guest

      What’s with all the complete lack of class from the MS apologists?

  • Victor

    It is ironic with all the hostile reaction to Rick Sherlund’s comments. Ironic because Sherlund is probably the single most connected analyst to Microsoft’s management. He has been a Microsoft apologist for nearly three decades.

    It is entirely true most investment banking analysts only care about how to generate more fees for the bank. If Sherlund is still with Goldman Saches (his former employer), this report makes all the sense because Goldman (long time Microsoft banker) would stand to generate fees should Microsoft embark on splitting the company apart. Now that he is with Nomura, a third tier bank, they have little chance of getting any of the fees. So just maybe the man is actually speaking some truth this time around.

  • keysy

    This isnt the first time this has been brought up. XBox doestn make microsoft enought money. There are alot fo shareholders that this xbox is a waste of time. true it may seem like xbox make alot of money but it really doesnt compared to other products. microsoft isnt in the video game bsuiness they are in software. It actually cost the company to run xbox. As a shareholder why would you want to continue this path

    • Joe_HTH

      Xbox is a 1+ billion dollar a year business. If that’s not enough, then I don’t know what is. It’s also extremely profitable and not a drain on the company at all.

      Bing on the other hand might.

      “There are alot fo shareholders that this xbox is a waste of time. ”

      Most shareholders are complete idiots. Analysts and Wall Street types don’t give a damn about the long term health of Microsoft. They care about putting as much money in their pocket as possible.

      • Guest

        Yeah, everyone’s an idiot, except you and Ballmer. Right.

      • anon

        Yeah, it’s a $1b / year business that cost way, way more than that to enter and sustain. I get that MS really, really loves it. But at some point, it’s got to be delivering a good return somewhere, and that return has to be something you can put a number on. Can anyone show that over its lifetime, Xbox has been a good investment? Heck, take any positive revenue effects from anywhere at Microsoft that seem even vaguely credible. Has this ever looked like a good investment? Or does it only look good if you ignore all the startup costs? I get that it’s a long term strategy (and btw, Wall St. can handle that stuff just fine, too) – can someone show how this thing ever looks good?

  • http://www.facebook.com/people/Greg-Hakes/1046935695 Greg Hakes

    I wouldn’t give you a Wooden nIckel for an Stock analist opinion, most are only after their own personal interests. As for Xboxone goes, i think it wll do just fine.

    • Guest

      Your comment makes me trust that analyst’s position so much more.

    • http://www.facebook.com/jasondouglasfarris Jason Farris

      Xbox One will be one of the most successful products in consumer electronics history. Taking bets!

      • Guest

        You clearly are affiliated with MS somehow, employee or ambassador or something. I remember you suggesting the name “Xbox One” weeks before launch right here on GW, when everyone else was still speculating about a possible name, i.e. 720 etc. One way or another you’re a paid shill, and you know it. Taking bets with Ballmers money.

        • http://www.facebook.com/jasondouglasfarris Jason Farris

          You’re wrong. Notice I post with my actual identity. Maybe I’m just better at predicting than you are. Investigate away!

  • Bob

    The only thing controversial about this is why Sherlund wasn’t saying it half a decade ago? Because it was already apparent then that Xbox was never going to be a material contributor to MS’s overall profit. And it was equally obvious that MS was ill-equipped to compete successfully against Google in search, whether it was with MSN or later with Bing.

    And I love his justification for the higher price target. Not a change a fundamentals, just more chance that MS’s management won’t be able to continue making stupid decisions unchallenged. He’s effectively admitting that they’re now a drag on the stock price.

  • Chris Daltas

    You could argue that the Xbox has more to due with where Microsoft is going in the future than anything else they do – Windows and Office are not going to be around in 10 years but Xbox might…

  • http://www.timacheson.com/ Tim Acheson

    Xbox is performing brilliantly for Microsoft.

    When analysts/investors like Sherlund make ridiculous reccomendations like this, it;s usually a cynical and self-serving attempt to manipulate the value of a stock to try make a quick profit.

    It doesn’t matter. It’ll never happen. Xbox is an integral part of Microsoft. If Sherlund truly knew the brand, or even if he were a regular Xbox user, he would know this.

    Sherlund also seems to misunderstand Bing. The primary function of Bing is to direct flack at Microsoft’s arch rival, Google, as part of an ongoing war fought on multiple fronts. Bing does not need to fit into Microsoft’s diverse portfolio, it merely needs to be a reminder that Google’s search monopoly cannot be taken for granted. Having said that, the teams behind Bing have done a good job and it’s becoming a successful brand in its own right — and Xbox happens to be an interesting example of this.

    • Guest

      The only reason why Google has become Microsoft’s arch rival today is Microsoft’s incompetence for the past 10-15 years.

      • http://www.timacheson.com/ Tim Acheson

        No, Google has been fighting Microsoft since early on.

        Microsoft had a bad period for almost a decade, but that very clearly ended about half a decade ago with big changes that addressed the common criticisms.

        Even during their period, Microsoft remained market leader in all of their core markets, as well as dominating new sectors e.g. entertainment with Xbox 360. E.g. To date, Mac has still barely scraped past 5% market share against Windows.

  • sumedh kumar

    the most dumb analyst .. Got no patience and sense

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