THE AFTERMATH: BUY MICROSOFT

Normally, if the Department of Justice and 20 state attorneys general file antitrust lawsuits against a company you would expect its stock to react. Indeed, the term "predatory and exclusionary" business practices calls up images of Standard Oil just before the monopoly built by John D. Rockefeller Sr. was broken up.

So what are institutional investors who own Microsoft doing in response to the news that it's on Justice's 10 Most Wanted list? They're buying. True, Microsoft's shares dropped $3.50 when the market opened on May 18. But that was almost exactly the same amount that the stock had gained four days earlier, when the market -- and the rest of the free world -- was led to believe that a Justice-Microsoft settlement was imminent. In fact the stock is now in the same $85 to $87 band in which it has been hovering for the past two months.

Investors who follow Microsoft closely see the chance to gobble up shares while the market continues to digest the news. "The only ones selling the stock were the 12 guys who didn't know that the Department of Justice was going to file a suit," says Scott Schoelzel, manager of the Janus Twenty fund, which owns more than $300 million worth of Microsoft, according to public figures. The May 18 "selloff was an opportunity to accumulate shares."

Others agree. "I bought Microsoft," said hedge fund manager Jim Cramer on May 18. "And that's because of its good fundamentals." Indeed, few companies can match those. The Redmond, Wash., company pulled in $11.3 billion in sales last year, $3.5 billion of which ended up as net profit. The company's price to earnings ratio for projected fiscal 1998 earnings is currently around 55. That's more than double the figure for the S&P 500, but remember that this is a company with no debt and an ever-brightening revenue picture. On average, analysts are expecting Microsoft to earn $1.72 per share for the fiscal year ending next month, to be followed by $2.05 a share for 1999. Not a single estimate was changed as a result of yesterday's announcement, according to Zacks Investment Research.

The less-than-overwhelmed reaction probably reflects the fact that, of all the things the Department of Justice could have done, the suit filed yesterday was in fact a piece of good news. "I was happy when I saw that the worse case scenario didn't happen," says Rose Papp, the director of research at L. Roy Papp & Associates, which holds $5 million worth of Microsoft in its America Abroad fund. "No one is talking about breaking up the company anymore."

Neither is there fear that Windows 98, which is scheduled to be launched in June, will be held hostage by a government injunction. Instead, the Department of Justice is calling for Microsoft to include Netscape's Internet browser on Windows 98, to allow computer manufacturers to control what appears on the opening screen of PCs they sell, and for Microsoft to annul any contracts which might include provisions that exclude a PC maker from doing business with a Microsoft competitor. Even if any of these actions were to occur, Microsoft wouldn't lose revenue from them: It still gives Internet Explorer away for free, after all.

Meanwhile, it will probably be years before there's a conclusion to the case. By then, Microsoft's business focus will have already shifted away from Windows 98 to some new hot sector of the software industry. "I'll probably own Microsoft for another 10 years," says Schoelzel. "And by then this lawsuit will be of little interest."

The only significant effect the lawsuit will have on Microsoft's top line will be the legal costs of fighting both lawsuits at the same time the company is fending off legal assaults from competitors such as Sun Microsystems. Schoelzel estimates that those costs won't be higher than $5 million a quarter. Montgomery Securities analyst David Readerman, who covers Microsoft for Nationsbanc Montgomery Securities, has estimated the costs to be closer to $100 million a year. But that's still less than 1% of Microsoft's annual revenue.

By Sam Jaffe
Markets Writer
BusinessWeek Online