Microsoft Corporation (MSFT) Comm Stk US$ 0.0000125 (Crest Depository Interest)
HL comment (27 January 2021)
Microsoft reported second quarter revenues of $43.1bn, up 17% on last year, while profits after tax rose 33% to $15.5bn. Both numbers were substantially ahead of market expectations, driven by strong sales of cloud-based products.
An ongoing share buyback programme, which totalled $6.5bn in the quarter, meant earnings per share rose 34% to $2.03. And together with $3.5bn of dividends meant total returns to shareholders were up 18% on last year.
Microsoft shares rose 3.7% in aftermarket trading.
The emergence of cloud computing has opened new vistas for Microsoft. The current pandemic has done little to dampen progress, with home working strengthening the case for cloud based applications and boosting sales in the home computing division.
The brave new world includes updated versions of old classics, like Office 365, as well as newer business management software like Dynamics. Increasingly those are being delivered as cloud-based services rather than desktop software programs. Through Azure, Microsoft provides customers with the necessary computing power on a pay-as-you-go basis, eliminating the need for companies to pay up front for the storage and upkeep of servers. It's a complementary offer that's serving customers and shareholders well.
A second industrial revolution on this scale doesn't come cheap. Building out the infrastructure behind the system means capital expenditure came in at $15.4bn last year. It was under $6bn as recently as 2015.
Still, we think there's a silver lining to the extra costs. Massive investment requirements mean not everybody can afford a seat at the table. Microsoft is one of the select few business which can, thanks to a core business which enjoys tremendous operating leverage and is highly cash generative. Building a software platform is expensive and time consuming, but once it's up and running adding new customers is essentially costless - which means extra revenue drops quickly through to profit. That's why profit growth has outpaced revenues in recent years, and the modest capital expenditure requirements outside the cloud business also mean cash generation has been strong. As a result Microsoft's sitting on a net cash pile of over $70bn.
Despite the extra investment the group's even had enough left over to return cash to shareholders through share buybacks and dividends. The prospective dividend may be modest at 1%, but total shareholder returns rose 18% in the first quarter and the track record of dividend growth stretches back to the mid-noughties, although it should be remembered that dividends are not guaranteed.
As things stand it looks like Cloud will be a three-way carve up. Amazon is the market leader, while Google-owner Alphabet is building its capability from a lower base. That puts Microsoft in the middle of the pack. Its focus is on making Azure an adaptable product that can sit together with any existing computing power. Combine that with a back catalogue of software programmes and it could be an attractive niche. So far customers seem to be lapping it up.
The market thinks a steady core business and higher growth new ventures means Microsoft can generate impressive profit growth over the next few years. We're inclined to agree. However, a price to earnings ratio of 32.4 is well above the group's longer term average, so the pressure is on to deliver.
Microsoft key facts
- Price/Earnings ratio: 32.4
- 10 year average Price/Earnings ratio: 18.4
- Prospective dividend yield (next 12 months): 1.0%
All ratios are sourced from Refinitiv. Please remember yields are variable and not a reliable indicator of future income. Keep in mind key figures shouldn't be looked at on their own - it's important to understand the big picture.
Half Year Results
The Productivity & Business Processes division saw sales rise 13% to $13.4bn. That was driven by particularly strong sales of business management software Microsoft Dynamics, which together with cloud services saw revenue rise 21%, while LinkedIn revenues rose 23%. Microsoft Office sales also remain robust.
Intelligent Cloud saw sales rise 23% to $14.6bn - with server and cloud services both performing well. Revenues from Microsoft Azure rose 50%.
More Personal Computing sales rose 14% to $15.1bn. That reflects very strong Xbox sales, up 40%, with more modest results from sales of new Windows operating systems, search and Surface device sales.
Free cash flow in the quarter came in at $8.3bn, up from $7.1bn a year ago. Microsoft finished the quarter with net cash of $71.4bn, down from $73.2bn at the end of June.
This article is original Hargreaves Lansdown content, published by Hargreaves Lansdown. Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Refinitiv. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.
This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.
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