Does Microsoft Need China?

The tech giant is on the rebound, but its future may lie in how it decides to adapt its pricing model to the developing world.

If you looked in the mirror one morning and discovered you were Bill Gates, how would you regard China? With a hard-won sense of balance, tempered by infinite patience, perhaps. But more likely with the frustration of a champion player cut from the title match.

Microsoft, the US$36 billion software company co-founded by Gates, famously got off on the wrong foot in the PRC, and the troubles afflicting its presence still abound. It owns the desktop market there, yet earns little money because 97 percent of its software is illegally copied. Prominently among Asian governments, China’s state planners support Linux, the open-source—read non-proprietary and low-cost—operating system that competes with Microsoft’s Windows. Every time Microsoft pressures the government to crack down on the pirates, the government makes a move to support the rival system.

And yet Microsoft is pumping US$750 million in aid into China over three years—and that’s on top of the approximately US$1 billion it spends there annually to run its business. The money is devoted to helping develop an infrastructure for a software industry via joint ventures and academic research and training.

Microsoft is helping China as much—or more—than any US company. Still, among the Western companies seeking a fortune there, Microsoft seems to face the greatest obstacles. If you were a prominent Microsofter, you might ask yourself, “Does this company need China?”

Darn Shame’

“No,” says John Connors, CFO of Microsoft, when asked this same question. Connors, who took over the top global finance post in 2000, is speaking to business school students and local executives in Singapore.

At 45 years old and more than six feet tall, he has a youthful face and a voice that still has a hint of a drawl from the Montana rodeo town where he grew up. “No,” he says. “We can still be successful without large-scale China growth. Our financial model, our business plan doesn’t assume any big China breakthrough. There’s nothing on the multi-year that [shows] it breaks through.” He adds: “But it would be a darn shame if it didn’t.”

On the face of it, this is true. Nobody needs China less than Microsoft. It’s a company with US$36 billion in revenue, total assets of US$90 billion, and 57,000 employees. It has an astounding US$56 billion in cash (Connors plans an announcement late in July about the cash, and analysts expect a share buyback). True, it’s no longer a high-tech dynamo whose stock price is growing at 40 percent per annum. In an admission of slowing growth, CEO Steve Ballmer recently announced US$1 billion in cuts. Yet analysts still project an 11 percent rise in stock price this year. This company, if anything, is resilient, and midway through its fiscal 2004, analysts are still in a glowing mood.

David Hilal, an analyst for Friedman Billings Ramsey, a US investment bank, projects revenues to grow 8 to 12 percent and earnings to increase 11 to 15 percent per year on average over the next five years. “I’m bullish on Microsoft and its earnings power,” says Hilal. “They’ve shown their ability to drive top-line growth and made progress in containing costs.”

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