Last week’s earnings report from Microsoft Corporation (NASDAQ:MSFT) was a bit of a disappointment, at least on the top line. Revenues climbed 7.6% to $22.1 billion, but that was well short of the consensus estimate for $23.62 billion. Yet MSFT stock stayed the course.
Following the earnings report, Microsoft shares climbed another 1.5%, putting the stock’s gains at 12% for the year-to-date. Its resilience is a testament to the renewed Microsoft that CEO Satya Nadella is building … and why I believe shares still have a ways to go.
Strength in the Cloud
The key to MSFT stock right now is the company’s burgeoning cloud business. Nadella has made spot-on investments during the past few years to take advantage of this opportunity.
How big is this market?
According to Gartner, spending is forecast to jump from $209.2 billion in 2016 to $383.3 billion by 2020. In fact, Alphabet Inc (NASDAQ:GOOGL) Cloud Chief Diane Greene believes that only about 5% of the world’s data is in the cloud, and that the market could eventually hit a whopping $1 trillion.
No surprise. There are many clear-cut advantages to cloud computing, especially compared to traditional on-premise approaches. This includes lower overall costs, seamless integrations (such as with APIs) and access to real-time data.
Thus, it’s hard not to be bullish on MSFT stock from this standpoint, especially for the long haul. Microsoft has many core competencies that that are ideal for the cloud. After all, Microsoft has a trusted brand, a massive customer base, a secure global infrastructure and a network of millions of developers.
The latest Microsoft earnings report definitely highlights the advantages as well as the strong execution.
Microsoft has made great strides in transitioning legacy technologies to the cloud, such as the Office franchise. Office 365 Commercial reported more than 100 million MAUs (monthly active users) in the most recent quarter, up 35% on a year-over-year basis.
At the same time, MSFT has been innovating new offerings. Some examples include Microsoft Teams (a chat system for the workplace), OneDrive (storage) and StaffHub (for human resources).
But of course, Microsoft stock has gotten a boost from the company’s strategic acquisitions. Perhaps the most notable example is the deal for LinkedIn, which is the world’s largest professional network (there are over 500 million members). To leverage this asset, Microsoft has implemented the features into products like Dynamics 365 and Office.
Besides cloud apps, MSFT also has a thriving business (Azure) for cloud infrastructure services. It is the No. 2 player, behind Amazon.com, Inc. (NASDAQ:AMZN).
Yet at the current pace, Microsoft could be the leader within a few years. Note that AMZN does not have anything similar to the assets like Office, SQL, Skype or LinkedIn.
Bottom Line on MSFT Stock
Microsoft is not without its risks. The company still owns a variety of slow-growth platforms, including its legacy Windows OS. Plus, the company’s aggressive M&A strategy has its own suite of potential problems.
Plus, MSFT stock is far from cheap at a price-to-earnings ratio of nearly 31. Compare that to similar tech conglomerates such as Oracle Corporation’s (NYSE:ORCL) 21X and International Business Machines Corp.’s (NYSE:IBM) 13X — not favorable.
But Microsoft deserves a premium. Credit Suisse analyst Michael Nemeroff says that MSFT’s opportunity is still in the early phase. He predicts that revenues from the cloud business will grow at 50%+ through 2018 and that margins will continue to rise. This is why he has a price target of $80 per share on Microsoft stock.
In light of the inherent advantages of Microsoft and its disciplined performance, that forecast sounds reasonable enough to me.
Tom Taulli runs the InvestorPlace blog IPO Playbook as well as OptionExercise.com, which provides interactive tools & services for employee stock options of pre/post IPO companies. Follow him on Twitter at @ttaulli. As of this writing, he did not hold a position in any of the aforementioned securities.