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Is Microsoft Stock a Buy? Free Cash Flow Gives Us the Answer

MSFT stock - Is Microsoft Stock a Buy? Free Cash Flow Gives Us the Answer

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I recently saw an article headline stating that Microsoft (NASDAQ:MSFT) was cheaper than Church & Dwight (NYSE:CHD), the sleepy consumer staples company that makes Arm & Hammer baking soda, Oxi-Clean stain remover and Trojan condoms.

MSFT stock cheaper than CHD? Have investors lost their minds?

I’ve searched high and low for the article in question, but Google couldn’t help me find it. So, I’ve decided to compare both companies’ valuations along with Apple (NASDAQ:AAPL), the company with the world’s first trillion-dollar market cap, using my favorite metric: free cash flow (FCF) yield, to make an informed decision. 

Free Cash Flow Rocks

Some people use market cap when calculating FCF, but I prefer to use enterprise value because it takes into account a company’s use of leverage to generate the free cash flow.

In both calculations, you want an FCF yield as high as possible.

Using the trailing 12 months for free cash flow, the market cap as of Aug. 20, and the balance sheet from the latest quarter, here’s what I’ve come up with:

MSFT FCF yield = $32.3B / $825.0B + 72.2B – $133.8B = 4.2% 

CHD FCF yield = $701.0M / $14.2B + $1.8B – $89.0M = 4.4%

On a market cap basis, it’s 3.9% and 4.9%, respectively.

For all the perfectionists out there, I’ve neglected to calculate on a per-share basis, which takes into account share repurchases. Next time, perhaps.

Either way, MSFT stock is not cheaper than CHD on that basis, although given its growth prospects compared to Church & Dwight are much greater, MSFT is the better GARP (growth at a reasonable price) stock of the two.

That said, you can’t go wrong owning CHD in good times and bad, but I digress.  

How Microsoft Compares to Apple

It’s been a while since I’ve sat in front of the computer and discussed the merits of MSFT stock. The last time I recommended Microsoft was in April calling it one of seven platform stocks to buy.

I wrote on Apr. 5, “With Microsoft’s cloud and AI initiatives taking center stage at the company, the original Windows platform is looking like a tiny fraction of its overall business. It’s still an essential component through Office 365, but less so than a decade or even five years ago.”

I also wrote, “CEO Satya Nadella might be overpaid, but he sure is making a lot of smart moves at the house Bill built.”

Apple was another of the seven, and it’s arguably much cheaper than MSFT stock while growing at a faster pace.

In July, Microsoft supposedly crushed fourth quarter earnings, beating analyst estimates on both the top and bottom line, while eclipsing $100 billion in annual revenue for the first time in the company’s history.

While historically relevant, revenues and net earnings per share excluding currency grew 15% and 3%, respectively, on a non-GAAP basis.

How did Apple do in its latest quarter?

Revenue grew 17% year-over-year, while earnings per share jumped 40% YOY, Apple’s best third quarter report ever.

What’s Apple’s FCF yield?

AAPL FCF yield = $58.6B / $1.05T + $97.1B – $244.0B = 6.5%

The Bottom Line on MSFT Stock

I’m generally in favor of investors owning Microsoft for the long haul given that its cloud business is snowballing, but I have to wonder if its current growth is worth a greater multiple than Apple.

So, if you can only own one of the two tech stocks, for me, it’s got to be Apple. That said, if you can afford to own both, I would, but I’d probably wait for MSFT to correct over the next few months. 

Anywhere in the mid $90s would be the perfect entry point.


Article printed from InvestorPlace Media, https://investorplace.com/2018/08/is-microsoft-stock-a-buy-free-cash-flow-gives-us-the-answer/.

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