Microsoft (NASDAQ:MSFT) continues zooming to record highs. As the Redmond, Washington-based software giant takes a dominant position in the cloud, investors have renewed their interest in Microsoft stock.
The recent run-up has put the near-term buy case for MSFT in doubt. However, due to its solid balance sheet and renewed growth, the case for holding MSFT stock has become more robust than ever.
Microsoft Stock Is Back
Once written off as a company trapped in a declining PC business, Microsoft has successfully redefined itself. MSFT has now reached a market cap of $900 billion. This takes it to a record high for the equity. It has also regained the title of world’s largest market cap.
To be sure, this is not the Microsoft that pushed me into Apple’s (NASDAQ:AAPL) Mac ecosystem. No longer reliant on a PC monopoly of declining importance, it has turned itself into a leader in an increasingly influential cloud sector. Together with Amazon (NASDAQ:AMZN), it has become increasingly dominant in the enterprise information technology sector.
The cloud in itself does not constitute a significant moat. Despite this, more than 800 CIOs cited Microsoft and Amazon as preferred vendors in over half of the top 30 IT products. Both companies have attracted this business—and built a moat—by continuously expanding their services.
Thanks to a cash hoard that stood at $127.66 billion as of the end of 2018, MSFT can easily afford such expenditures. Last year, the company made $9.2 billion in corporate IT investments.
Why MSFT Is a Hold
As a result, Microsoft has set records, rising for an eighth consecutive day. Despite its run, I do not think MSFT stock has become overvalued. The recent move higher takes its forward price-to-earnings (PE) ratio to just under 24 as of the time of this writing.
Investors should also note that the company has placed itself on track to maintain double-digit profit growth. Analysts forecast profit increases of 14.2% for this year and 12.6% for fiscal 2020.
Moreover, its cash position helps to give MSFT one of the strongest balance sheets in corporate America. That balance sheet has helped the company attain a AAA credit rating, a feat matched only by Johnson & Johnson (NYSE:JNJ).
The key question is not whether one should buy Microsoft, but at what level. I agree with my InvestorPlace colleague Bret Kenwell who calls MSFT “a must-buy stock on a pullback.” At these levels, I find it hard to conclude that Microsoft is anything but fairly valued. The forward PE ratio of almost 24 closely matches overall averages for the S&P 500.
Still, I would buy if the stock stagnates for a few months or if it declines by at least 10%. I would also encourage long-term investors to stay put. In addition to the solid balance sheet, holders of Microsoft stock have benefitted from 15 straight years of dividend growth.
This places it ten years away from dividend aristocrat status. It almost assures investors long-term holders that yields will rise from the more modest 1.6% levels of today. Though the buy case may appear tenuous for now, the hold case appears more solid than ever.
The Bottom Line on Microsoft Stock
The recent move higher in Microsoft has weakened the buy case for the equity, but its cloud dominance and strong balance sheet make MSFT a solid hold.
Once written off as a laggard in a declining industry, a move into the cloud has again brought investors back to Microsoft stock. The stock continues to rise, and it has regained the title of world’s largest market cap.
However, its 14.2% growth rate combined with its forward PE of almost 24 places MSFT at fair value. A massive cash hoard, growing dividend, and solid balance sheet reinforce the case to stay in the stock. However, now is not the time to add to positions.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks. You can follow Will on Twitter at @HealyWriting.
