Microsoft Still Has Much To Prove

4/2/2012


  Recent Price
$32
  Dividend
$0.80
  Yield
2.5%
  P/E Ratio
12
  Shares (millions)
8,465
  Long-Term Debt as % of Capital
16%
  52-Week Price Range
$32.95 - $23.65

Microsoft's ($32; MSFT) fortunes are entwined with the personal computer. The software giant has had trouble maintaining its relevance in a shifting environment that emphasizes mobile gadgets, considering that more smartphones than personal computers shipped last year.

Still, Microsoft shares have rallied 25% so far this year, reaching their highest level since February 2008, on optimism that the company should benefit from the launch of Windows 8 and might finally stake a claim in the mobile market after several false starts. Trading at just 12 times trailing earnings, 17% below its five-year average P/E ratio, Microsoft is a Buy and a Long-Term Buy.

Familiar revenue sources

Sales of Windows (26% of revenue for 12 months ended December) slipped 2% in the last six months of 2011. The server and tools unit (25%) has delivered seven straight quarters of double-digit sales growth. About half of revenue comes from multiyear licensing agreements, some for Microsoft's cloud-based products. Sales for the business-software unit (32%) rose 6% in the six months ended December. In the December quarter, several large customers converted to a cloud-based version of Office. 

Microsoft and hardware partner Nokia ($5; NOK) hope to expand on the Windows Phone's roughly 4% sliver of the U.S. smartphone market, making it a viable competitor to iPhone and Android devices. The Windows phone's low price (reportedly less than $100 in the U.S.) could undercut rivals, especially in parts of Europe where users pay full price for smartphones without carrier subsidies.

Unfortunately, while customers prefer smartphones with a rich selection of applications, developers have shown only mild interest in designing apps for the Windows Phone. Microsoft sells more than 65,000 apps, up from 50,000 in January but still well below the 500,000 or so available to iPhone and Android users.

More than 90% of personal computers run on Windows, underscoring the significance of the Windows 8 rollout, likely to begin in the second half of 2012. The debut could revive the flagging Windows unit and offer passage into the tablet market. Dell ($17; DELL), Hewlett-Packard ($24; HPQ), and Samsung are expected to release Windows tablets this year.

PC shipments are projected to rise 5% in 2012, followed by 10% growth in each of the following two years, according to researcher IDC. Most of 2012's growth is expected in the second half of the year, helped by the Windows 8 debut and the launch of ultrabooks, devices with thin frames and touch-screens that blur the line between traditional notebook computers and tablets.

Conclusion

Microsoft generated $21 billion in free cash flow in the 12 months ended December, up 14%. Net cash of $4.70 per share, up 27% from a year ago, comprises 15% of the stock price. Management has reduced its share count 15% over the past five years while boosting the dividend more than 23% in each of the past two years. An annual report for Microsoft Corp. is available at 1 Microsoft Way, Redmond, WA 98052; (425) 882-8080; www.microsoft.com.

MICROSOFT
Quarter
Per-Share Earnings*
($)
Sales
Change
Quarterly
Price Range
($)
P/E Ratio
Range
Dec '11
0.78
vs.
0.77
+ 5%
27.50
-
24.26
10 - 9
Sep '11
0.68
vs.
0.62
+ 7%
28.15
-
23.79
11 - 9
Jun '11
0.69
vs.
0.51
+ 8%
26.87
-
23.65
11 - 10
Mar '11
0.56
vs.
0.46
+ 13%
29.46
-
24.68
12 - 10
           
Year
(Jun.)
Sales
 ($Bil.)
Per-Share
Earnings*
($)
Per-Share
Dividend
($)
52-Week
Price Range
($)
P/E Ratio
Range
2011
69.94
2.64
0.75
29.46
-
22.73
11 - 9
2010
62.48
2.10
0.58
31.58
-
22.00
15 - 10
2009
58.44
1.62
0.52
28.50
-
14.87
18 - 9
2008
60.42
1.87
0.46
37.50
-
26.87
20 - 14
 
Quadrix Scores †
Overall
Momen-
tum
Value
Quality
Financial
Strength
Earnings
Estimates
Performance
88
37
73
93
98
41
78

   * Earnings exclude special items.
   † Quadrix® scores are percentile ranks, with 100 the best.
   NM Not Meaningful.


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