Microsoft (NASDAQ:MSFT) stock traded higher Thursday morning after the tech giant reported fiscal second-quarter earnings and revenue beats. But as impressive as Microsoft’s quarterly earnings and Azure revenue growth numbers were, the Microsoft bull case goes far beyond one quarter.
Here are five reasons to buy Microsoft stock.
1. Cloud Services
Microsoft reported 62% Azure revenue growth in the second quarter. That robust cloud revenue growth helped propel Microsoft’s overall 14% revenue growth rate. It’s not just that Azure’s high-margin revenue is accounting for a higher percentage of Microsoft’s overall revenue each quarter. Microsoft’s Azure margins are actually growing over time. Bank of America analyst Kash Rangan estimates two-thirds of Microsoft’s total addressable market in the next several years are Azure opportunities, and that TAM is less than 3% penetrated at this point.
2. Commercial Office
Microsoft Office is certainly far from new. However, Microsoft has adapted its commercial office solutions products to the modern subscription-based, cloud-centric software model.
Joel Litman, Chief Investment Strategist of Altimetry and Valens Research, says Microsoft is following the path paved by Adobe (NASDAQ:ADBE). Adobe transitioned to a subscription-based business model and the company’s profitability and share price skyrocketed.
“Microsoft is seeing the exact same inflection Adobe saw, but the market isn’t reacting like it’s already seen this playbook. Microsoft’s stock is exactly where Adobe’s was, at the same stage of their journey,” Litman wrote back in November.
Since that time, Microsoft stock is up another 15.4%.
3. Gaming
Microsoft has been in the gaming business since 2001 when it released the first-generation Xbox. Like the software business, gaming has evolved tremendously since 2001. Microsoft has been flexible and adaptable. Microsoft is launching its next-generation Xbox in time for holiday season 2020. However, its Xbox Live subscription-based online gaming platform is focused more on online gaming.
Microsoft was early to the game in recognizing hardware was not the growth opportunity in gaming. Since 2014, Microsoft has purchased six gaming studios and invested in services like Game Pass, Xbox Play Anywhere and Xbox Live Gold. It has also made a splash with its streaming platform Mixer by poaching top gamers Tyler “Ninja” Blevins and Mike “Shroud” Grzesiek from Twitch.
4. LinkedIn
Most people know LinkedIn as a professional social media platform. However, since it acquired the company in 2016, Microsoft has transformed LinkedIn from a social media platform to a business-to-business marketing juggernaut. Rangan says two-thirds of LinkedIn’s revenue in 2016 came from its talent solutions (recruiting) business. Today, Microsoft is emphasizing its marketing solutions business, which accounted for an estimated 17% of fiscal 2019 revenue. Over time, Rangan says increased integration with Microsoft Dynamics 365 and Office 365 will make LinkedIn Sales Manager the primary growth driver for the platform.
5. Github
Microsoft acquired Github in 2018 for $7.5 billion. Github provides hosting for software development version control. Since 2012, Github has grown its user base at a compound annual rate of 50%. Rangan estimates Github’s total addressable market will be worth about $6 billion by fiscal 2025. He also says about 52% of Fortune 50 companies currently use the enterprise tier of Github and pay $21 per user per month.
When Microsoft first acquired Github, CEO Satya Nadella said software engineering roles in companies outside of the tech sector are growing 25% faster than roles within the tech industry. “As every company becomes a digital company, value creation and growth across every industry will increasingly be determined by the choices developers make,” Nadella said.
How to Play Microsoft Stock
Rangan says Microsoft is a unique investment due to the five growth themes mentioned above. In addition, the stock still trades at a reasonable valuation and benefits from the company’s robust legacy business margins.
“As we reach an inflection point in Azure and Com Cloud drives majority of recurring [revenues and profits], we believe MSFT could rerate higher as EPS accelerates to 17% y/y FY21E with significant [operating margin] leverage given end of cloud investment cycle (ADBE trading at 35x CY20 P/E, and growing FY20 EPS mid 20%s),” Rangan says.
Anthony Denier, CEO of Webull, says this week’s earnings beat is yet another example of Microsoft under-promising and over-delivering.
“Ever since the software giant decided to focus on Azure over its legacy Windows operating system, it’s been taking off,” Denier says.
The same can be said of Microsoft stock. In the past three years, Microsoft stock is up 162%, outpacing all of the so-called FANG stocks. Yet even after the strong run, the five growth sources above coupled with Microsoft’s reasonable valuation means there are still plenty of reasons to be scooping up shares.
As of this writing, Wayne Duggan held no positions in the aforementioned securities.
