Microsoft MSFT released its fiscal third-quarter earnings report on April 30. Here’s Morningstar’s take on Microsoft’s earnings and stock.
Key Morningstar Metrics for Microsoft
- Fair Value Estimate: $505.00
- Morningstar Rating: ★★★★
- Economic Moat: Wide
- Morningstar Uncertainty Rating: Medium
What We Thought of Microsoft’s Earnings
Microsoft’s third-quarter results topped the high end of the firm’s guidance. Revenue increased 13% year over year to $70.1 billion, compared with the high end of guidance of $68.7 billion while operating margin was 45.7%, compared with the high end of guidance at 44.6%.
Why it matters: Results are good across the board, with upside to our estimates on top and bottom lines. Revenue for all segments was above the high end of guidance. Critically, we see very impressive performance within Azure, in traditional and artificial intelligence workloads.
• In our view, near-term demand indicators are robust. Commercial bookings grew a solid 17% year over year in constant currency based on surging Azure commitments from OpenAI and other large deals. Remaining performance obligations increased 34% year over year to $315 billion.
• Demand for Azure AI services is surging, which is a long-term positive. While Azure remains capacity-constrained, AI performed better than internal expectations, while traditional workloads rebounded. Azure growth was 35% in constant currency for the quarter and topped guidance.
The bottom line: We raised our fair value estimate for wide-moat Microsoft to $505 per share from $490, based on good results and guidance, while our long-term estimates remain unchanged. We view shares as attractive and the stock remains one of our top picks.
Coming up: Overall guidance is impressive in this environment. Microsoft provided better-than-expected guidance on the top and bottom lines, including $73.7 billion in revenue, 43.4% operating margin, and $3.34 in earnings per share at the midpoints.
• The firm notes no change in customer behavior based on tariffs or DOGE.
Big picture: We see results reinforcing our long-term thesis, which centers on the expansion of hybrid cloud environments, the proliferation of artificial intelligence, and Azure. We center our growth estimates around Azure, Microsoft 365 E5 migration, and traction with the Power Platform.
Microsoft Stock Price
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Fair Value Estimate for Microsoft
With its 4-star rating, we believe Microsoft stock is undervalued compared with our long-term fair value estimate of $505 per share, which implies a fiscal 2025 enterprise value/sales multiple of 13 times and an adjusted price/earnings multiple of 38 times.
We model a five-year compound annual growth rate for revenue of approximately 13% inclusive of the Activision acquisition. We envision stronger revenue growth ahead as Microsoft’s prior decade was bogged down by the downturn in 2008, the complete evaporation of mobile handset revenue from the disposal of the Nokia handset business, as well as the onset of the model transition to subscriptions (which initially results in slower revenue growth). However, we believe macro and currency factors will pressure revenue in the near-term. We believe revenue growth will be driven by Azure, Office 365, Dynamics 365, LinkedIn, and emerging AI adoption.
Read more about Microsoft’s fair value estimate.
Economic Moat Rating
For Microsoft overall, we assign a wide economic moat, arising primarily from switching costs, with network effects and cost advantages as secondary moat sources. Based on the company’s segments, we believe the productivity and business processes, or PBP, and intelligent cloud, or IC, segments have earned wide moats, and the more personal computing unit warrants a narrow moat. We believe Microsoft’s moat will probably allow the company to earn returns in excess of its cost of capital over the next 20 years.
We believe customers value Microsoft’s products as stand-alone solutions and for the company’s immense product breath, and these applications are tightly integrated with one another. In our opinion, the strength of these products is crucial but should not overshadow the importance of all the solutions being offered under one umbrella by Microsoft as customers are usually looking to consolidate vendors. These factors combine to reinforce our wide moat. As Microsoft offers a wider set of related and compelling solutions, we believe it becomes more deeply entrenched in its customers as they adopt multiple products.
Read more about Microsoft’s economic moat.
Financial Strength
We believe Microsoft enjoys a position of excellent financial strength arising from its strong balance sheet, growing revenue, and high and expanding margins. As of June 2024, Microsoft had $76 billion in cash and equivalents, offset by $52 billion in debt, resulting in a net cash position of $24 billion. Gross leverage is at 0.5 times fiscal 2024 EBITDA. Our base case assumes that revenue grows at a healthy pace, driven by Azure public cloud adoption, Office 365 upselling efforts, AI adoption, and broader digital transformation initiatives.
Read more about Microsoft’s financial strength.
Risk and Uncertainty
We assign Microsoft a Morningstar Rating of Medium. Microsoft faces risks that vary among the products and segments. High market share in the client-server architecture over the last 30 years means a significant high margin revenue is at risk, particularly in OS, Office, and Server. Microsoft has thus far been successful in growing revenues in a constantly evolving technology landscape, and is enjoying success in both moving existing workloads to the cloud for current customers and attracting new clients directly to Azure. However, it must continue to drive revenue growth of cloud-based products faster than revenue declines in on-premises products.
Read more about Microsoft’s risk and uncertainty.
MSFT Bulls Say
• Public cloud is widely considered the future of enterprise computing, and Azure is a leading service that benefits the evolution to first to hybrid environments, and then ultimately to public cloud environments.
• Microsoft 365 continues to benefit from upselling into higher-priced stock-keeping units as customers are willing to pay up for better security and Teams Phone, which should continue over the next several years.
• Microsoft has monopoly like positions in various areas (OS, Office) that serve as cash cows to help drive Azure growth.
MSFT Bears Say
• Momentum is slowing in the ongoing shift to subscriptions, particularly in Office, which is generally considered a mature product.
• Microsoft lacks a meaningful mobile presence.
• Microsoft is not the top player in its key sources of growth, notably Azure and Dynamics.
This article was compiled by Gautami Thombare.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar's editorial policies.
