An Unflattering Comparison for Microsoft Surface

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Software giant Microsoft (NASDAQ: MSFT  ) has never had a good track record with consumer hardware. That's why the company's departure from its modus operandi with Surface is such a big deal. The new tablet is arguably Microsoft's biggest and boldest attempt at first-party hardware. Considering Steve Ballmer's proclamation of Microsoft's future as a "devices-and-services" company, Surface is of paramount strategic importance, even if its financial results are negligible right now.

However, one analyst is now making an unflattering comparison for Surface and also expressing skepticism about Microsoft's bigger picture. Is Surface destined to be the next Zune or Kin?

Microsoft Zune was doomed from the get-go. Launched five years after Apple's (NASDAQ: AAPL  ) iPod, it only lived for five years before Microsoft killed it off. Meanwhile, the iPod lived on and is now approaching its 12th birthday. Apple's iconic music player is still the market leader with over 70% share domestically, but units are declining in lockstep with the broader music player market. Apple continues to update the lineup even though sales are being cannibalized, since the iPod now serves as a strategic gateway into the broader iOS ecosystem.

Kin was even sadder. The poor thing will always go down in smartphone history as the worst launch for a consumer device. The phone was axed less than 50 days after launch, which wasn't surprising since Microsoft was fully aware of its fatal flaws after some internal testing -- and still decided to ship it anyway.

The last thing that Microsoft wants is for Surface to stir up memories of these dearly departed products.

The price is not right
MKM Partners' analyst Israel Hernandez thinks Surface RT is "on track to join Zune and the Kin in the great consumer electronics discount rack in the sky." The Surface Pro model that carries a more powerful Intel chip and full-featured version of Windows 8 has better prospects, but that doesn't say a lot, since Surface RT sales have been uninspiring. The uncompetitive price points dampen Surface Pro's chances; buying a 64 GB model along with a requisite Touch/Type Cover sets you back over $1,000, far more than comparable competing Windows 8 convertible devices. That's twice the cost of an entry-level iPad (excluding external keyboard).

In the fourth quarter, IDC estimated that Microsoft shipped roughly 900,000 Surface units into the channel. This was before the Surface Pro launch, so all of those were RT models, and sell-through to end users is a different story altogether. For the current quarter, Hernandez has lowered his Surface forecast from 800,000 units to 600,000 units. He's also lowered his estimates for the fiscal year from 2.9 million to 2.3 million, with next fiscal year's Surface forecast moving from 6.6 million to 4 million.

"Open revolt"
Hernandez predicts that in order to spur Surface Pro sales, Microsoft will inevitably be forced to cut prices since it cannot currently appeal to the mainstream market. Unfortunately, such a move will hurt margins and make tense OEM relationships even tenser. The analyst goes as far as to characterize OEMs as "currently in open revolt."

There's some credence to this idea. Hewlett-Packard (NYSE: HPQ  ) , the largest PC maker in the world by volume, continues to increasingly tap Google (NASDAQ: GOOGL  ) for its software fix. Just in the past month or so, HP has launched both a Chromebook and a Slate 7 Android tablet. Both of those corresponding launch announcements emphasized a "multiOS approach" and intention to "leverage an array of operating systems."

Rejection hurts
Windows 8 is "dangerously close to being permanently rejected by consumers," according to Hernandez. The platform was always a bold bet, but perhaps too bold. The reports that Microsoft is offering discounts to OEMs in order to spur touch-based form factors also threatens to undermine Windows profitability in the long run.

Overall, the analyst rates Microsoft at "neutral" alongside a $27 price target, which is right about where shares are now.

It's been a frustrating path for Microsoft investors, who've watched the company fail to capitalize on the incredible growth in mobile over the past decade. However, with the release of its own tablet, along with the widely anticipated Windows 8 operating system, the company is looking to make a splash in this booming market. In this brand-new premium report on Microsoft, our analyst explains that while the opportunity is huge, the challenges are many. He's also providing regular updates as key events occur, so make sure to claim a copy of this report now by clicking here.

Read/Post Comments (4) | Recommend This Article (6)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On March 13, 2013, at 6:31 AM, Billiardman wrote:

    I own a MacBook Pro Retina and a Surface Pro. If the Surface Pro was available when I bought the Surface Pro, I would have bought it instead. It is an awesome device. I can run apps as well as windows programs. The form factor is terrific. The price is half of my MacBook Pro Retina. I do agree, the Surface RT is a lemon. But the Pro should be a big winner. The RT may have made the road to success a little more difficult. Microsoft made a mistake with the RT. But like I always say...."Even a blind dog finds a bone once in a while."

  • Report this Comment On March 13, 2013, at 9:09 AM, Secs27 wrote:

    We just upgraded to to windows 8 using dell one 27 touch screens and Lenovo Ideacentre touch screens. The combination of touch, keyboard and mouse make or an incredible computing experience. Win 8 is fat, fluid and powerful. It is also rock steady reliable.

    We also purchased the Surface Pro. Maybe people hold pens time with it because it is the most incredible device we have ever used. Very, very fast, powerful and works flawlessly. It is so good, I can't put it down. It combines the beauty and build quality of my iPad with the power of a full blown computer. I used to have to travel with my iPad and my laptop, now I just take the Surface Pro. It has become my primary computing device. I have not touched my laptop or my iPad since the Surface Pro came into my life.

  • Report this Comment On March 13, 2013, at 5:32 PM, jvgfool wrote:

    I like Windows 8. Microsoft needs to refer to the Start screen as a splash menu and not an interface. It just confuses people. All it is is a menu that goes across your monitor instead off popping up on the side. It's very practical when you know its correct purpose in life.

  • Report this Comment On March 14, 2013, at 3:26 PM, jayintheatl wrote:

    Comparing Surface RTs to Zunes and Kins, huh?

    To my knowledge, Microsoft sold something like 3 million Zunes....all time.

    I've heard maybe *hundreds* of I wrong, was it thousands?

    And then we have the Surface RT. In about 4 full months, it's sold something like 1.4 million units. Does anyone really feel like this analogy is appropriate? Because I feel like it's a pure trolling.

    Also, I have a Surface RT, and even some of the Surface Pro lovers are severely misjudging the device:

    A. Perhaps you heard that recently Microsoft flipped the switch that opens up the built-in IE10 browser to Flash sites by default? (The device had been released with Flash only enabled on a specific list of sites, but this could be changed "over the air," and MSFT just made that decision this week.)

    B. Have any other computer at all that you leave on? Surface RT has numerous FREE apps for remote desktop connectivity. My favorite is TeamViewer. Using TeamViewer, I feel like I have a Surface PRO, for about 1/2 the price, because I can connect to my desktop and run all "desktop apps" in almost exactly the same way as if I used the Surface Pro desktop.

    I can enthusiastically recommend the Surface RT as well as the Surface Pro.

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