RULE MAKER PORTFOLIO

<THE RULE MAKER PORTFOLIO>

Microsoft vs. Amazon
A six-month review

By Al Levit (TMF Early)

GLENDALE, CA (April 8, 1999) -- Last October, Tom and Dave did a segment on the Fool Radio Show in which they compared Microsoft (Nasdaq: MSFT) to Amazon.com (Nasdaq: AMZN). The question they debated for an hour was which company would do better over the next five years. The following Monday, I shared my feelings on the subject, siding with our Rule Maker, Microsoft. The next day, Oak offered his traditional ABM (anybody but Microsoft) opinion in making a case for the superiority of Amazon's business model. Now that six months have passed, it's time to take a look at how this contest is progressing.

I'll be revisiting this match from time to time because in many ways it represents the best vs. the best. Microsoft is the epitome of a Rule Maker, and Amazon.com is still the quintessential Rule Breaker. Before jumping into the debate, however, I need to disclose that I personally own Microsoft, but not Amazon.com. I try to be objective when I write about these companies, but you should keep this in mind as you read.

First of all, I admit some embarrassment about writing six months ago "that I burst into laughter" because I felt that Amazon.com didn't stand chance against the mighty Microsoft. The actual results so far suggest that maybe it's the other way around. After all, Microsoft has only gone up a measly 85% or so since I wrote that column and Amazon.com has gone up about 380%.

On the other hand, the S&P has gone up just short of 20% in the same period, so maybe Mr. Softy's performance really isn't that bad :). At any rate, next time, I'll take Rule Breakers a lot more seriously.

However, in my own defense, this is a five-year contest, not a five-month contest. I think of it as being similar to an NBA game, where big leads come and go relatively quickly. Using that analogy, I would say that Amazon.com is ahead by 20 points in the middle of the first quarter. It's a big lead, but there is plenty of time for Microsoft to catch up.

Fortunately, Microsoft still has one or two things going for it. Last November, we noted that Microsoft had managed to be the Rule Maker Port's best investment while not really having a major new software release. Since then, Microsoft has begun to seriously challenge Oracle (Nasdaq: ORCL) in the database market with SQL Server. If Softy gains the lead in the relational database market, it would be the third area in which Microsoft has true gorilla power. I'm not aware of any other company that has gorilla power in more than one area. (Please see The Gorilla Game part 1, part 2, and part 3 for a discussion of gorilla power.)

As far as Microsoft's two main flagship products, Windows and Office, we're still waiting for the next release. Somehow, that lack of new products didn't stop Microsoft from once again blowing past Wall Street estimates last quarter and soaring to new highs. The new version of Office is now slated to come out in the second or third quarter of calendar year 1999, while the new version of Windows should arrive by the second quarter of calendar year 2000.

There will be some charges associated with the delay in shipping Office 2000 because more people will be buying Office 97 with free coupons for upgrades to Office 2000 upon its arrival. Microsoft recently announced that it estimated these charges to be $400 million, all of which will be expensed immediately. In addition, the company stated that it will have some excess income earnings to cover this one-time charge (the last time Microsoft missed estimates was... never).

Of course, Microsoft continues to be annoyed by the trustbuster monkey on its back. The company has been battling the U.S. Department of Justice and 19 states regarding Microsoft's alleged monopoly practices for several months. Microsoft recently proposed a settlement, but several of the states immediately shot it down as inadequate. Only time will tell whether this matter will be settled quickly or drag on for years.

The possibility of a settlement drove the stock price up about 10%. If the settlement talks collapse, however, that 10% rise will probably disappear as well. Nevertheless, we will still be left with a company that over the next 12 months is looking at two major releases of software run by about 90% of computers on the planet. With or without the settlement, Microsoft should do just fine.

What about Amazon.com? The books, music, videos, drugs, and now auctions (and who knows what else by next week) e-tailer is certainly whipping Softy in terms of share price appreciation, and by a lot! I'm not nearly as familiar with Amazon.com as I am with Microsoft, but I'll share a few of my thoughts with you tomorrow.

Fool on,

Al

04/08/99 Close
Stock  Change    Bid
AXP   +1 5/16  127.75
CHV   +3 13/16 93.75
CSCO  -1 1/8   117.63
KO    +2 1/8   60.88
GPS   +4 3/8   72.75
EK    -  1/2   61.94
XON   +1 1/16  74.25
GM    +1 3/16  87.88
INTC  -1 1/16  131.06
MSFT  +1 1/4   94.56
PFE   +2 15/16 142.44
SGP   +2 5/16  59.19
TROW  +  5/8   33.63
YHOO  -1 3/4   206.69

                    Day   Month    Year  History
         R-MAKER  +1.64%   6.47%  18.59%  50.05%
         S&P:     +1.29%   4.48%   9.65%  35.64%
         NASDAQ:  +1.14%   4.53%  17.36%  55.69%

Rule Maker Stocks

    Rec'd    #  Security     In At       Now    Change
     2/3/98   48 Microsoft     39.13     94.56   141.64%
     5/1/98   55 Gap Inc.      34.37     72.75   111.67%
    6/23/98   34 Cisco Syst    58.41    117.63   101.38%
     2/3/98   22 Pfizer        82.30    142.44    73.07%
    2/17/99   16 Yahoo Inc.   126.31    206.69    63.64%
    2/13/98   22 Intel         84.67    131.06    54.78%
    8/21/98   44 Schering-P    47.99     59.19    23.32%
    5/26/98   18 AmExpress    104.07    127.75    22.76%
     2/6/98   56 T. Rowe Pr    33.67     33.63    -0.14%
    2/27/98   27 Coca-Cola     69.11     60.88   -11.91%
 
 Foolish Four Stocks
 
     Rec'd    #  Security     In At     Value    Change
    3/12/98   17 General Mo    72.41     87.88    21.37%
    3/12/98   20 Exxon         64.34     74.25    15.41%
    3/12/98   15 Chevron       83.34     93.75    12.49%
    3/12/98   20 Eastman Ko    63.15     61.94    -1.92%
 
 Rule Maker Stocks
 
     Rec'd    #  Security     In At     Value    Change
     2/3/98   48 Microsoft   1878.45   4539.00  $2660.55
     5/1/98   55 Gap Inc.    1890.33   4001.25  $2110.92
    6/23/98   34 Cisco Syst  1985.95   3999.25  $2013.30
     2/3/98   22 Pfizer      1810.58   3133.63  $1323.05
    2/17/99   16 Yahoo Inc.  2020.95   3307.00  $1286.05
    2/13/98   22 Intel       1862.83   2883.38  $1020.55
    8/21/98   44 Schering-P   2111.7   2604.25   $492.55
    5/26/98   18 AmExpress   1873.20   2299.50   $426.30
     2/6/98   56 T. Rowe Pr  1885.70   1883.00    -$2.70
    2/27/98   27 Coca-Cola   1865.89   1643.63  -$222.27
 
 Foolish Four Stocks
 
     Rec'd    #  Security     In At     Value    Change
    3/12/98   17 General Mo  1230.89   1493.88   $262.99
    3/12/98   20 Exxon       1286.70   1485.00   $198.30
    3/12/98   15 Chevron     1250.14   1406.25   $156.11
    3/12/98   20 Eastman Ko  1262.95   1238.75   -$24.20
 
                               CASH    $185.03
                              TOTAL  $36102.78

Note: The Rule Maker Portfolio began with $20,000 on February 2, 1998, and it adds $2,000 in cash (which is soon invested in stocks) every six months.

Read More Rule Maker Reports