A Legal Beating

By Daniel Kadlec

Microsoft has been a great stock to own for more than a decade. Yet it's always been a tricky one to buy. Early on, it was just another speculative tech stock. As the company came to dominate the PC world, its stock rose so swiftly that it seemed perpetually overvalued. Waiting for a pullback was torture. By the time the stock finally dipped, it had already doubled--again. And you were too late--again.

Now that the stock has tanked 43% from its Dec. 30 high--wiping out $270 billion of shareholder wealth--investors have a rare chance to buy this juggernaut on sale. The trouble, of course, is that legal issues have become paramount, underscored last Friday when the Department of Justice asked that Microsoft be split in two. Until the legal cloud lifts, the stock will defy normal analysis--not unlike a tobacco stock.

It's an eerie thought. Has Mr. Softy morphed into the Marlboro Man? Certainly, Philip Morris can attest to how prodigious earnings, huge markets, addicted customers and a dominant share mean nothing if you're seen as a killer--even if the victims happen to be competitors and the damage is financial. Once a company's lawyers start running the show, investors get nervous. The issue now is whether investor jitters translate into a bargain price.

Microsoft's fundamentals are sound. The company recently sent up a flag on near term earnings, but generally things are on track and few doubt that Microsoft's core products are anything but first rate. Is the stock cheap? Well, over the past five years Microsoft's price-earnings ratio has ranged between 30 and 80 and averaged 51. Now the P/E is 41, by that measure its lowest point and best value in many months. That earnings multiple is well below those placed on lower-margin businesses run by, among others, Dell and Sun. And history (notably the 1984 breakup of AT&T) suggests that breakups work out well for shareholders.

Not that Judge Thomas Penfield Jackson would think twice about crushing shareholders in deciding how to de-monopolize Microsoft. "He'll be more interested in restoring the marketplace to where it would have been" absent Microsoft's abusive behavior, says Jennifer Gray, an antitrust lawyer with Brown Raysman. In that view, any wealth that happens to be destroyed by a breakup or other remedy could be seen as just deserts for shareholders who should never have benefited from monopoly profits in the first place.

I'm troubled by that view. Shareholders change every day, and many current holders do not have long-term gains. And this isn't just any company. Microsoft is widely held. It has 3 million individual shareholders, and the stock is held in 36% of all U.S. stock funds. It is one of the 10 largest positions in 31% of stock funds, according to Morningstar. The whole idea of the antitrust case is to protect consumers. Yet they own the stock too.

Whatever the judge decides, Microsoft at these levels discounts a lot of bad news. My view: value is value, whether it's bundled or in pieces. Let the lawyers worry about appeals and remedies. Focus on fundamentals, and you'll do well in the long run.

See time.com/personal for more on Microsoft. E-mail Dan at kadlec@time.com See him Tuesdays on CNNfn at 12:20 p.m. E.T.