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A Fountain of Youth for Microsoft?

By Jay Greene If Microsoft (MSFT) has one message to get across to Wall Street these days, it's that the 29-year-old company still has some solid growth in front of it. The theme of the software giant's 2004 financial analyst meeting -- "Growth Through Innovation" -- speaks volumes about how the company wants to be portrayed to investors.

When Microsoft agreed on July 20 to hand out $75 billion over the next four years in dividends and stock repurchases, it addressed concerns raised by investors who watched growth dip from the average annual 36% pops it experienced through the 1990s to what's expected to be single digits in the next year or two. But it also signaled to some that Microsoft's most vibrant days might be behind it.

Yet, the Redmond giant sees things otherwise. "I see incredible opportunity for an exciting, dynamic company like Microsoft," CEO Steven A. Ballmer told the roughly 300 analysts, investors, and journalists who attended the July 29 event.

PATENTS GALORE. Wall Street isn't yet convinced that the dynamism will translate into meaningful sales growth. Microsoft shares fell 10 cents, to $28.48, on the day of the confab. "They're facing a skeptical crowd," says Drew Brosseau, an analyst with SG Cowen & Co. That's because Microsoft, which posted solid 14% revenue growth in the fiscal year that ended June 30, is expected to grow only 5% in the current year.

It's understandable that the numbers will slow. Annual sales have hit $36.8 billion, a large base from which it's tough to grow. Moreover, personal computer growth, which drives so much of Microsoft's sales, is expected to shrink from 13% in fiscal 2004 to 7% to 9% in fiscal 2005, according to Microsoft's internal estimates. Add to that the end of a software-licensing program, which accounted for $1.1 billion of sales in the last fiscal year, and Microsoft's fiscal 2005 numbers don't look so hot.

Still, execs at Redmond are trumpeting the outfit's commitment to innovation as the key to its fiscal future. Chairman Bill Gates notes that Microsoft will apply for 3,000 patents in the current fiscal year. And it expects the government to issue about 1,000 patents on filings it has made in years past. Gates demonstrated R&D investments in speech recognition, handwriting recognition, and software to better manage vast photo collections.

LITTLE MEANINGFUL BUMP. "What we've got in the [product] pipeline now is probably more exciting than what we've ever had," Gates says. "You can expect big breakthroughs in the years ahead." Microsoft executives speaking after Gates talked up prospects for everything from online advertising to mobile devices to software for running small and midsize businesses. Ballmer said Microsoft innovations will help the giant increase operating income faster than rivals and the industry. But he didn't highlight revenue growth.

It's an understandable -- if frustrating -- dilemma for the company and Wall Street. Microsoft's two giant monopolies -- Windows and Office -- account for the lion's share of revenue. Looking ahead, Microsoft is banking on Windows growth in markets that it has mined in the past -- homes adding second PCs and developing nations moving away from piracy to buy the operating system. Office is expanding with new product lines to enable such things as collaboration and note-taking. The relative growth potential for those young markets is huge -- but unlikely to produce a meaningful bump in overall Office sales, which hit $11 billion in the last fiscal year (see BW Online, 7/26/04, "How Microsoft Can Embrace Linux").

That's one reason why analysts continue to see slower growth in the years ahead despite Microsoft's fast-ball growth pitch. "What everyone is adjusting to is the fact that growth is more moderate," says Eric Upin, an analyst with Wells Fargo Securities. He thinks Microsoft will continue to expand sales in the upper-single digits going forward and maybe crack 10% in its best years. Those aren't the sort of numbers that Microsoft's investors have come to expect. Greene is BusinessWeek's Seattle bureau chief

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