Tuesday, June 15, 2004

Microsoft works to fortify small-business division

Company reshuffles plans after disappointing venture

By Allison Linn
The Associated Press

SEATTLE - News that Microsoft Corp. discussed a merger with business software giant SAP AG has focused new attention on Microsoft's limited success in a market it would love to conquer.

Microsoft is rejiggering plans to cater to the more specialized needs of small businesses, part of a wider effort to find new revenue streams to augment its traditional cash cows. The hope is to score with accounting and other software that Microsoft is not traditionally known for. The target customer: companies with fewer than 1,000 employees.

The most recent changes - including putting the Microsoft Business Solutions unit under the direct control of chief executive Steve Ballmer - come as the company concedes it has not been able to beat the competition as it hoped.

Microsoft made its first big push in the market several years ago, with the $1.1 billion acquisition of Great Plains Software Inc., a longtime player in a fragmented sector lacking a dominant leader. Microsoft believes the market includes as many as 40 million companies worldwide.

Now the segment is more important because Microsoft's big moneymakers - the Windows operating system and Office software - have grown so dominant that their respective markets are getting saturated. Microsoft's stock price has remained relatively flat in recent years.

Chris Alliegro, lead analyst with independent research firm Directions on Microsoft, believes Microsoft sees small- and mid-sized business software as the "potential next big revenue wave."

But despite Microsoft's potential power - including around $60 billion in cash to fund acqusitions or product research - selling to small and mid-sized companies hasn't come easily.

Microsoft's chief financial officer, John Connors, told analysts the Business Solutions division, MBS, had the weakest results of Microsoft's seven units in the most recent quarter. It met expectations but continued to lose money - $65 million on revenue of $153 million.

The unit was created out of acqusitions of Great Plains and Denmark's Navision, combined with some of Microsoft's own small-business software. That's left it with a wide array of products catering to specialized needs, such as accounting and customer relationship management, for niche businesses like mom-and-pop manufacturers or small firms needing broad multinational support.

As the company has tried to fold in its acquisitions and train its sales force, some analysts say the unit has lacked strong direction.

"At the end of the day, I think they need a better strategy," said Rob Enderle, principal analyst with the Enderle Group.

One such strategy could be to try to grab more overall business from other big companies that sell business-related software, facing off with the likes of Oracle Corp. and Germany's SAP.

In defending its hostile takeover bid for rival PeopleSoft Inc. in a federal antitrust case in San Francisco, Oracle is arguing that it faces an impending threat from Microsoft.

Mindful that Oracle's lawyers would be mentioning its merger talks with SAP, Microsoft disclosed Monday that it had made an overture to SAP. The talks didn't get far, the company said, as Microsoft decided such a marriage would be too difficult.

Orlando Ayala, a Microsoft sales star recently named chief operating officer of MBS, insists that businesses with 1,000 employees or less are a "sweet spot" rife with untapped potential.

Still, he says he's concerned that companies like Oracle will try to muscle into that turf, joining current competitors such as Intuit Inc. and Salesforce.com. Also lurking is IBM Corp., which makes most of its money selling hardware, software and technology services to big organizations but has made a goal of getting more action from small and medium businesses.

Ayala says MBS's growth has been stymied by the distractions of reorganizing the division. He says recent moves, which included some layoffs, are "not a retrenchment" but rather a sign that "we are putting the pedal to the metal."

But the company has scaled back its expectations.

At one time, Microsoft had said it expected the unit to have annual revenue of $10 billion, perhaps as early as 2010. Ayala now says the unit has the potential to reach that goal but it would be hard to say when.

He does expect the unit to reach $1 billion in annual revenue in the next two years - and become profitable "in a very, very reasonable time frame."

Still, it could be years - if ever - before the unit gets anywhere near to becoming a performer on the order of Windows, which earned $1.6 billion on revenue of $2.9 billion for the most recent quarter.

The challenge is that selling software to cash-strapped small businesses is complex. Such businesses often have individualized needs and little money to spend on solutions, and often take a long time between buying new products, trying to squeeze as much life as possible out of old systems.

Two things Microsoft has going for it are name recognition and cost.

Karen Scholl, chief financial officer for the small Edmonds, Wash.-based travel firm Rick Steves' Europe, signed on for Great Plains software to handle the company's accounting needs right around the time Microsoft took it over.

She had been considering buying software from smaller competitors, only to see them go belly up. Scholl said it was a comfort that Microsoft was behind Great Plains.

Another advantage for Microsoft - but possibly for competitors, too - is that the entire market segment seems poised for big changes, as evidenced by Oracle's unwelcome bid for PeopleSoft, said Albert Pang, a research director with market research firm IDC.

"The whole market is up for grabs right now," Pang said.

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