September 26, 2008, 10:49 AM — As the U.S. financial services crisis roiled markets around the world, stock buybacks from bellwethers Microsoft andÂ HP and earnings reports from Red Hat andÂ RIM caught the eye of IT investors.
Traditionally, companies buy their own stock to show confidence in future earnings and bolster their share prices. Though Microsoft and HP have shown strong earnings over the past year, general lack of confidence in the economy has forced down the share price of both companies since last year. Microsoft's buyback announcement this week garnered more attention because its cost, at US$40 billion spread over five years, was bigger than HP's $8 billion, and because of what it suggests about the company's fortunes.
Microsoft's share price has been a sore subject for years. "We believe Microsoft management is bewildered why the stock trades at 11.5 times earnings," said Citigroup analyst Brent Thill in a research note. In comparison, Dell and Oracle trade at about 20 times earnings and Web archrival Google is trading at about 30 times earnings.
Microsoft's expected revenue of $67.4 billion this year dwarfs Google's $16.5 billion. But investors appear to be betting that Google is better-positioned than Microsoft to piggyback on the growth of Web advertising and software as a service.
Microsoft's buyback plan was also sweetened by the company's decision to raise its quarterly dividend by $0.02 per share, or 18 percent, to $0.13. In a week where tech-company share prices were whiplashed by the collapse of U.S. investment banks and angst over whether tight credit will hit IT budgets, Microsoft's share price rose steadily from its opening at $25.15 Monday to $26.61 Thursday.
Stock buybacks boost a company's share price by reducing the number of shares on the market, thus raising the value of each share. And when a company lays billion of dollars on the line to buy its own shares, it's seen as a big bet on its own future, sending a signal of confidence to investors.
Buybacks are not always seen as a good thing for all investors, though. An all-at-once buyback, for example, can arouse suspicions that a company is succumbing to pressure for a quick fix to the short-term needs of a few large investors, or even company insiders.
The flexibility of Microsoft's five-year plan was seen as a good thing this week. Industry watchers, however, may have gotten one issue wrong. Many analysts said that the huge buyback is a signal that the company will not take up the idea of buying Yahoo again. But Microsoft still has $23 billion cash on hand, and its announcement that it will also buy $6 billion in debt this week is a signal that it sees opportunities among lenders desperately looking for good credit risks.
"We expect Microsoft to be very active in software and Internet M&A," said Citigroup's Thill. As Yahoo shares decline in the wake of Microsoft's earlier purchase attempt, watch for acquisition rumors to start flying again.
Meanwhile, IT vendor stocks started to climb Thursday along with market indices as lawmakers reported that a financial-sector bailout agreement was near. Oracle and HP got an especially good boost in the wake of their announcement Wednesday to team up and sell servers and databases packaged together for cloud-computing services. Oracle gained $0.57 to close at $20.47, while HP rose $0.92 to close at $47.70.
Despite fears that a slowing economy would dampen IT spending, tech heavyweights have reported solid earnings. BlackBerry maker RIM Thursday said it earned $495.5 million in its last quarter, compared with $287 million in the year-earlier period. Also on Thursday, Red Hat said net income for the quarter, helped by growth in its JBoss middleware business, was $21.1 million, up $18.2 million from the year-earlier quarter.
Investors, however, look at future expectations, and both RIM and Red Hat disappointed. RIM said it expects earnings of between $0.89 and $0.97 per share, while analysts polled by Thomson Reuters were forecasting $0.98. Red Hat's expectations for next quarter also fell short of forecasts. The weaker-than-expected outlook from both companies caused their share prices to decline in after-hours trading.