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Tue, June 6 at 7:00PM ET

The Market Overreacted to Microsoft’s Revenue Miss (MSFT)

Steep, kneejerk selloffs are usually overdone. So anyone holding shares in Microsoft Corporation (NASDAQ:MSFT) can reasonably hope that the double-digit-percent drubbing MSFT took Tuesday will at least partially reverse over the next few sessions.

microsoft stock-msftIt probably will, but a host of bad news in the latest quarter could be a headwind for Microsoft stocks for some time.

Microsoft cut its earnings outlook at the same time sales missed quarterly forecasts. Sluggish sales in Asia weren’t very reassuring either, because of weakness in the important Chinese and Japanese markets. And like so many other Dow stocks, MSFT earnings took a hit from a stronger dollar.

But it was the way that MSFT missed sales that really hurt Microsoft stock. Sales from commercial software — MSFT’s most important business — came in light. Indeed, the critical Windows and Office segments both had surprisingly poor quarters.

Windows Pro and non-Pro revenue declined 13%, hurt by lower average selling prices for academic customers. Office, meanwhile, saw consumer sales tumble 25% on weak sales in Japan and the transition to Office 365.

Microsoft is in the midst of a pivot more toward enterprise, mobile and services — especially with cloud-based services. But MSFT still needs consumer demand for Windows and Office to help manage the handoff. That makes the unexpected weakness in those segments so spooky.

MSFT Stock a Buy on Weakness?

That said — and this is very much in favor of MSFT — cloud-based revenue more than doubled year-over-year, which supports the case that the transition is on track despite weakness in commercial software. Heck, thanks to Office 365 subscriptions, MSFT is the largest cloud company for business customers, pulling in $5.5 billion per year in sales.

Additionally, as MSFT management and some analyst were quick to point out, the end of XP support last year made for some unfavorable comparisons this time around. Indeed, the effects of the end of the upgrade cycle from XP will continue to be felt over the next six months, MSFT said.

And in an effort to calm restive shareholders, Microsoft pledged to spend the remaining $30 billion available in its share repurchase program over the next couple of years.

Taken all together, the numbers and outlook from the latest quarter probably don’t warrant a selloff of 9% in a company with a market value of $390 billion. Is MSFT really worth $35 billion less today than it was yesterday?

Investors in Microsoft have plenty to worry about. Margins are under pressure, as is growth. A stronger dollar will hurt revenue. But all that and more should be fully discounted in the MSFT stock price after Tuesday’s drubbing.

That doesn’t mean MSFT stock is primed for huge upside, mind you. Shares should reclaim some of the ground lost Tuesday, but may not go any farther. Analysts’ average price target from current levels implies upside of about 15% in the next 12 months or so, but then those price targets are coming down hard in wake of MSFT earnings.

MSFT stock will almost certainly break its slide tomorrow or very soon. However, given the headwinds and so much of Wall Street calling it fully valued, MSFT won’t go very far.

As of this writing, Dan Burrows did not hold a position in any of the aforementioned stocks.

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