Microsoft's Outperformance: You Ain’t Seen Nothing Yet
Ashish is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
After underperforming the broader markets in 2010 and 2011, Microsoft (NASDAQ: MSFT) has seen a positive breakout from its last two year trading range in 2012. The stock has seen 17.48% gain YTD in 2012 versus NASDAQ’s 13.08% gains. The main drivers for this upside have been the strong business trends as evident from its last quarter earnings release and the excitement surrounding Windows 8 launch. However, with strong product pipeline and low valuations, I believe a substantial upside is still left in the stock and the recent 7-8% correction provides an attractive entry point for the investors. This article looks into some of the key fundamental drivers for Microsoft and why buying Microsoft at these levels makes sense.
The single biggest driver for the stock on the upside will be the traction of Windows 8 OS. Microsoft's delay in terms of launching tablet-friendly OS has helped Apple’s (NASDAQ: AAPL) iOS and Google’s (NASDAQ: GOOG) Android in taking initial lead. However, I am still bullish on the prospects of Windows 8. The first and the most obvious reason is consumer preference for Windows which they have used for long in their PCs and is more stable and reliable. However, the second and more interesting one is the preference of PC OEMs for Windows. Although, tablet appears a natural derivative of notebook, PC makers like Dell (NASDAQ: DELL), HP (NYSE: HPQ), Lenovo and Acer never really received any success in tablet space. Android –ARM is still a new development platform for PC OEMs and required substantial investment in R&D. With the introduction of Windows 8, PC OEMs will be able to install OS for tablets without having to develop the software platform in house. This lowers PC OEMs’ break-even point in tablets; helps them achieve a level playing field with mobile handset makers; and has a potential to completely change the dynamics of tablet space. So, the PC OEMs’ preference for the Win 8 OS for tablets would be natural. Even the non PC tablet makers, who are currently using Android ecosystem, would not like to be left behind and will embrace Windows.
This Windows 8 partner build up will likely act as a catalyst for Microsoft’s stock in the near term. Longer term, Windows 8 will improve the relevance and expand the market opportunity for Microsoft. Also, it will help in removing any concerns which investors might have regarding potential decline in Windows revenue in the near future.
After Windows 8, the second most important factor investors are watching out for Microsoft is the traction of Windows mobile ecosystem. Microsoft announced a strategic partnership with Nokia (NYSE: NOK) last year in which Nokia adopted Windows Phone 7 as the main OS for its smartphones. While the initial traction of NOK-WP7 wasn’t in line with the bullish expectations, it was Nokia which ended up as a loser after giving up its Symbian OS. Microsoft was a beneficiary of the deal with improved market share. Microsoft continues its efforts to increase adoption of and while it will take time for MSFT to build a meaningful ecosystem of apps/developers for Windows Mobile, I believe it will be able to emerge as a third platform in mobile ecosystem and gain share.
The other key catalyst for Microsoft includes:
- Strong enterprise business momentum driven by Windows 7 corporate refresh in advance of the end of support of Windows XP in April 2014
- Strong customer momentum on Office 365 and Windows Azure
- Reducing losses from Online Service Division and market share gains of Bing
- Multiple product launches including Office 15, Windows Server 2012, System Center 2012 and SQL Server 2012
Microsoft is currently trading at a forward PE of just 10x. With an attractive yield of 2.60%; relatively defensive nature of the business and net cash holding of $45 bn; upcoming corporate PC refresh cycle; and a strong product pipeline; I believe the stock can appreciate significantly from the current levels and would recommend investors to buy the stock from both short and long term perspective.
TheAnalystBlog has no positions in the stocks mentioned above. The Motley Fool owns shares of Apple, Google, and Microsoft. Motley Fool newsletter services recommend Apple, Google, and Microsoft. 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. If you have questions about this post or the Fool’s blog network, click here for information.