Microsoft Ready To Bounce Back

8/8/2011


  Recent Price
$27
  Dividend
$0.64
  Yield
2.4%
  P/E Ratio
10
  Shares (millions)
8,521
  Long-Term Debt as % of Capital
17%
  52-Week Price Range
$29.46 - $23.32

Microsoft ($27; MSFT) has earned the scorn of many investors in recent years — and rightfully so. Its late arrival to the smartphone and Web-search markets contributed to the stock delivering a paltry annualized total return of 0.5% over the past decade. But despite its flaws, Microsoft seems capable of scaling the wall of worry and is worth another look.

Pessimism weighs on the shares, causing them to look cheap from many angles. The stock trades at 10 times trailing earnings and nine times year-ahead earnings, a discount of at least 36% to its peer group for both metrics. Shares also trade at least 30% below their own five-year averages relative to trailing earnings, operating cash flow, enterprise ratio, and book value. Excluding net cash of $4.79 per share, the stock's trailing P/E is just eight. Microsoft, yielding 2.4%, is a Long-Term Buy.

Business breakdown

June-quarter results suggest Microsoft has been well served by its push into cloud computing and corporate markets. Thanks to long-term contracts for software and services, Microsoft generated $17.12 billion in unearned revenue in the June quarter, up 15% and well above analyst projections. Management sees unearned revenue growing at a low double-digit rate in fiscal 2012 ending June, suggesting strong corporate demand.

Microsoft took a 5% share of the market for tablet-computer operating systems in the June quarter, good for third behind Apple ($389; AAPL) and Google ($592; GOOG). A smartphone partnership with Nokia ($5; NOK) should also help Microsoft build its mobile presence. Gartner sees Microsoft's share of wireless-phone operating systems nearing 20% by 2015, up from 4% last year.

No doubt, several risks linger. Although Microsoft keeps gaining share in the expanding Web-search market, its losses for Internet operations keep piling up — $6.54 billion in the past three years. And management continues to see uncertainty in the consumer markets. June-quarter sales for the Windows unit declined slightly, as strength in corporate sales couldn't fully offset consumer weakness. Moreover, while the Xbox has been largely immune to slumping U.S. video-game sales, it could eventually take a hit if its audience migrates to the cheaper — and sometimes free — games available on the Apple iPad or through Facebook.

However, Microsoft's continued commitment to its dividend could support the shares going forward. Microsoft's quarterly dividend of $0.16 per share is 20% higher than the year-earlier payment. The software giant's massive cash hoard allows for additional dividend growth.

Microsoft generated $19.46 billion in free cash flow in the 12 months ended June, up 11%. The company now holds $52.77 billion in cash, compared to long-term debt of $11.92 billion. Net cash of $4.79 per share accounts for 18% of the stock price. Some of that cash remains overseas for tax purposes, so Microsoft has issued bonds at least three times in the past 15 months to fund operations, the dividend, and share buybacks. 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
Jun '11
0.69
vs.
0.60
+ 8%
26.87
-
23.65
10 - 9
Mar '11
0.61
vs.
0.45
+ 13%
29.46
-
24.68
12 - 10
Dec '10
0.77
vs.
0.74
+ 5%
28.40
-
23.78
12 - 10
Sep '10
0.62
vs.
0.40
+ 25%
26.41
-
22.73
12 - 10
Year
(Jun.)
Sales
 ($Bil.)
Per-Share
Earnings*
($)
Per-Share
Dividend
($)
52-Week
Price Range
($)
P/E Ratio
Range
2011
69.94
2.69
0.64
29.46
-
22.73
11 - 8
2010
62.48
2.10
0.52
31.58
-
22.00
15 - 10
2009
58.44
1.62
0.50
28.50
-
14.87
18 - 9
2008
60.42
1.87
0.43
37.50
-
26.87
20 - 14
 
Quadrix Scores †
Overall
Momen-
tum
Value
Quality
Financial
Strength
Earnings
Estimates
Performance
99
75
89
94
94
93
63

   * Earnings exclude special items.
   † Quadrix® scores are percentile ranks, with 100 the best.


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