Microsoft Has Catalysts for Continued Growth
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Microsoft (NASDAQ: MSFT) shares have witnessed a huge 5+% jump this morning on strong volume following the announcement of its Q3 earnings. Quarterly revenues of $17.3 billion represented a 6% increase as compared to the same period in 2011, and the corporation reported quite impressive results despite the continued decline in the PC market.
Although operating system sales to businesses increased 8% in the quarter (consumer sales were flat), the surprising news revolves around Microsoft’s Business Division, which is primarily comprised of revenues stemming from the sales of its Office suite of products. Sales and operating profits within the division increased 9% and 13%, respectively, as compared to Q3 2011, and operating margins increased by more than 250 basis points. The corporation’s strong push into cloud-based offerings and collaboration tools with its Office 365 suite, which have been received with strong demand, have come to present a meaningful supplement to the traditional revenue streams from Microsoft Office.
Better yet, trading at around 8x EV/FCF (ttm), Microsoft may present an intriguing value considering the number of upcoming catalysts that may continue to positively affect the corporation’s performance.
Nokia’s (NYSE: NOK) Lumia series, despite the software glitches, has been received with strong sales in the U.S. market thus far. Unit sales hit 2 million within the first week of its launch, the device hit Amazon.com’s (NASDAQ: AMZN) top sellers list, and reports show that stocks have been relatively low at leading unit volume retailers. In looking at the bigger picture, however, the device has not been a raging success – Apple’s (NASDAQ: AAPL) iPhone 4s competitor sold twice as many units within its first week of initial launch, and the Lumia has experienced weak demand in key European markets. For Microsoft to really take a stab at the smartphone market – it currently controls less than 2% – it will undoubtedly need more players accepting its mobile operating system.
Competition among different ecosystems is positive for the industry, and it would be reasonable to expect several more handset makers to roll out phones with Windows in the near future. This holds especially true following reports that Google (NASDAQ: GOOG) may plan on producing its own line of smartphones utilizing its hefty $12.5 billion Motorola Mobility acquisition in mid-2011. Likewise, carriers should be supportive of a Microsoft platform to prevent the Android/Apple duopoly from becoming even stronger. Verizon CFO Francis Shammo actually acknowledged the topic yesterday, stating that, “It is important that there is a third ecosystem that’s brought into the mix here, and we are fully supportive of that with Microsoft.”
Windows 8 Halo
Although there is no official launch date just yet, Windows 8 will be the primary catalyst behind movement in Microsoft stock. If the new operating system is received as expected, it should have a positive halo effect on several of the corporation’s units and boost awareness of Windows-based tablets and smartphones.
The idea, in which users who become familiar with the operating system on personal computers will find similarly operated devices to be more attractive, has undoubtedly worked for competitors like Apple. Such a halo effect may have an initial excitement-fueled effect on Microsoft stock, but the long-term effect will be more profound – Apple, for instance, has transitioned countless traditional PC users to its Mac product line through the consumer relationships built over nearly a decade following the release of the Windows-compatible iPod in 2002. In the positive scenario, Windows 8 will have the same effect on a future line of Windows-based smartphones and tablets.
New Gaming Console
Microsoft plans on continuing to push the Xbox 360 gaming system for at least the remainder of 2012 as, despite the overall gloomy outlook on the video game industry, the console is still experiencing decent demand and profitability. The corporation shipped 1.4 million units within the quarter, which is only around half as many in last year’s comparable period, and the division has run on an average operating margin of around 10% since Q1 2011.
Although the new Xbox system is not likely to be released until the 2013 Christmas season and it will not be as large of a catalyst as, say, the Windows 8 launch, continued gains in its Home and Entertainment Division (12-13% of total revenues) will be a driving force of the corporation’s top line. The division has grown to a nearly $9 billion per year unit from less than $3 billion per year in 2003.
The relative undervaluation of Microsoft compared to other players in the field, combined with the several meaningful upcoming catalysts for the corporation’s continued strong performance, should give way to the eking out of additional gains over the near term.
Motley Fool newsletter services recommend Amazon.com, Apple, Google, Microsoft, and Nokia. The Motley Fool owns shares of Apple, Amazon.com, Google, and Microsoft. gibbstom13 has no positions in the stocks mentioned above. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.