It turns out that an old dog can learn new tricks. Microsoft Corporation (NASDAQ:MSFT) has looked on from the sidelines as the FANGs propelled stock markets to never-before-seen highs. It has never been able to match the sex appeal of Apple Inc. (NASDAQ:AAPL), but after Satya Nadella took over the CEO role, Microsoft really does seem to have sharpened its edge.
MSFT stock beat fourth-quarter earnings estimates by a whopping 28 cents. The tech giant has managed to beat earnings in the consecutive four quarters leading up to the most recent, but beats have been modest — anywhere from 3 cents to 8 cents. Going back a couple years to Q1 2015, there has never been such a dramatic surprise (gauged by total dollar amount).
Something has shifted at Microsoft.
MSFT Stock’s Vision
Click to Enlarge Arguably what has been lacking in recent history is vision. It has always had the cushion from recurring revenue from the semi-monopolistic Windows software, but hasn’t been known as an innovator per se since the nineties — not in my mind, at least.
Over the past ten years, tech peers like AAPL and Alphabet Inc (NASDAQ:GOOG, NASDAQ:GOOGL) have left MSFT woefully behind, from a returns perspective. For the past decade, Microsoft was up just 150%, compared to 253% for GOOG and 782% for AAPL. Granted, AAPL doesn’t compete quite as directly with MSFT as GOOG.
In that mid-2000s timeframe, MSFT was still perceived by the public as a predominantly PC-focused company. Windows Vista was nothing short of a disaster, and when it tried to go into hardware, such failures as the doomed Zune player come to mind.
But now, the innovation and a forward-thinking mindset appear to have returned.
HoloLens, Cognitive Services and Azure paint a different picture. One of leading edge tech that knits into the broader MSFT brand and platform. And then there’s tuck-in acquisitions like LinkedIn that increase consumer stickiness and support the message of Microsoft building a portfolio that enhances productivity, thus empowering the customer.
The Numbers
So, the story seems promising, but the main questions investors need to reckon with involve the results of these new initiatives. Have they translated into growth, into more profits that will in turn juice valuation?
Indisputably so, yes.
And we’re not talking just a few percentage points eked out. Looking at fourth-quarter earnings, Productivity and Business Processes is grew 21% (Office 365 subscribers continue upwards), Cloud grew 11% and gross margins are up double digits as well.
Jumping straight on down to the bottom line, net income was up triple digits, 109%. That doesn’t need much commentary!
Bottom Line on Microsoft
MSFT operates in an extremely competitive environment, where companies vanish overnight as the onslaught of new, disruptive technology can render them obsolete. It’s competing with the best of the best in Cloud (though Azure has a strong base and is growing), in search, in Artificial Intelligence … the list goes on.
What’s clear is that the company is better positioned than it ever was to compete in such a reality. Current valuation at a 31x price-to-earnings multiple seems muted given the opportunities to expand the business. There’s probably some upside still given both the internal changes and the general momentum in tech.
As of this writing, Luce Emerson did not hold a position in any of the aforementioned securities.
