Is Microsoft a Good Investment?

By Anna Farley

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Given the scale of the company and decades of growth, the question "Is Microsoft a good investment?" deserves serious consideration.

MSFT has leveraged growth to scale

When it comes to tech stocks, few could ever hope to reach the level of Microsoft (NASDAQ: MSFT).

Founded in 1975 by childhood friends Bill Gates and Paul Allen, the company has become a global household name.

This firm has its fingers in an abundance of very lucrative pies. That includes software, cloud computing, video game consoles, and electronics.

Familiar brands include the Microsoft Windows operating systems, Xbox games consoles, and of course, the Microsoft Office applications suite (including Word, Excel, PowerPoint, and others).

But MSFT has seen its share price slide in 2022, so the questions remain, "Is Microsoft still a good investment?" and "Should I buy Microsoft stock?"

Fundamentals of Microsoft Stock

2021 was a strong year for Microsoft. Increases in remote working and media consumption, as people stayed home during the pandemic, proved to be highly beneficial trends for many big tech firms.

The company's revenue for fiscal 2021, which ended June 30, was 18% higher Y/Y at $168bn. This included a steep 29% increase in service and other revenue to $97bn and a more modest 4% product revenue rise to $71bn. Per share, annual earnings jumped 40% to $8.05.

In contrast, during fiscal 2022, the company's revenue similarly grew 17.96% to $198.27bn. This included another 29% increase in service and other revenue to $125.5bn and a slight 2.4% product revenue rise to $72.7bn. Per share, annual earnings jumped 19.9% from $8.05 to $9.65.

Overall, Microsoft's fiscal 2022 performance was slightly less impressive than in 2021.

This is not overly surprising.

Tech majors saw their shares climb higher and higher as the pandemic rolled on. Primarily, this is because their size makes it easier for them to weather storms.

Fellow FANGAM (an outdated acronym for Facebook - now Meta (NASDAQ: META), Amazon.com (NASDAQ: AMZN), Netflix (NASDAQ: NFLX) and Google—now Alphabet (NASDAQ: GOOGL), Apple (NASDAQ: AAPL), and Microsoft) stocks, likewise saw surges last year.

But 2022 has been brutal for them all.

Between early 2020 and September 2021, Facebook's shares soared 81% but has since dropped 65%. Likewise, Netflix has lost around 62%. Microsoft, Amazon, and Google lost around 30% in the first nine months of 2022. Apple has fared best, but even it is down 17% year-to-date.

In September 2021, Microsoft's market cap stood at $2.2 trillion, benefitting from tech-friendly trends. A year later, it has slipped to $1.7 trillion.

The company's price-to-sales ratio (P/S) currently stands at 9.8x, close to the five-year average of 9.6 but below the 2021 high of 12.3. This figure is calculated by dividing the company's share price by sales per share.

Meanwhile, MSFT's price-to-earnings ratio (P/E) is now 24.6x, well behind the 69.1x maximum but ahead of the 37.0x average.

What is the Bull Case for Microsoft?

Microsoft is a well-established brand with a now 47-year history. It's hard to argue against the appeal of such a powerful reputation.

And with many areas of the business still going strong, investors have plenty to celebrate.

Microsoft 365, for example, is proving highly successful. This is the company's subscription offering and bundles various Microsoft Office applications with additional cloud-based storage on OneDrive.

Microsoft 365 brings together Office 365, Windows, and Enterprise Mobility + Security to help organizations empower their employees with AI-backed tools that unlock creativity, increase collaboration, and fuel innovation while enabling compliance coverage and data protection.

During fiscal 2022, Office Consumer products and cloud services revenue increased 11%, and Microsoft 365 Consumer subscribers grew to 59.7 million. Up from 51.9 million a the end of fiscal 2021. The "Consumer" category meaning the average person rather than a business. Office Commercial products and cloud services revenue increased 13%, driven by Office 365 Commercial growth of 18%.

Alongside developing its own products, the firm is also seeing major success from acquisitions like LinkedIn.

In fiscal 2022, LinkedIn revenue increased by $3.5bn or 34%, driven by a strong job market in its Talent Solutions business and advertising demand in its Marketing Solutions business.

The LinkedIn acquisition, which was completed in December of 2016, was Microsoft's biggest ever at $26bn. As LinkedIn's success continues, the decision to buy is looking smarter by the minute.

Meanwhile, in January 2022, Microsoft announced its pending acquisition of Activision Blizzard (ATVI) for $68.7bn. Global regulators are fiercely debating the takeover of the gaming software producer as it may result in MSFT having a competitive advantage in the gaming market.

Moving on from individual products, the company favors returning money to shareholders via buybacks and dividends. A continuation of this trend encourages investor retention.

Indeed, Microsoft recently announced it will be increasing its periodic dividend on December 8 to $0.68, which will be 9.7% higher than last year's comparable payment amount of $0.62. This makes the dividend yield about the same as the industry average at 1.0%.

Not only that, but consensus compiled by FactSet puts the average Microsoft price target among analysts at $322.82 – with a high of $354.

Strong analyst consensus, rising dividends, continued strength and the potential for the Activision acquisition make a definite case for this company's investor appeal.

What is the Bear Case for Microsoft?

Broader economic pain is weighing heavily on the markets, and Microsoft stock is already down 30% YTD, a drop far worse than the initial pandemic hit. While it may appear oversold, investors could continue selling MSFT stock if the potential for earnings and growth to slow sends them looking for better alternative investments.

If Microsoft is not permitted to acquire Activision, the news could crush the stock, albeit temporarily.

Competition from other FANGAM stocks is worth noting, especially regarding large-scale government contracts.

In April, Amazon Web Services was awarded a $10bn NSA contract after Microsoft protested the award last year.

The news formed the latest skirmish in an ongoing battle. Amazon had already spent years fighting with the company over the Department of Defense's ("DoD") $10bn Joint Enterprise Defense Infrastructure ("JEDI") cloud contract.

JEDI was initially awarded to Microsoft back in 2019 before being canceled in July 2021 as the two companies continued their dispute. The DoD's explanation for the decision was that the JEDI contract no longer met its needs.

And computing, in general, remains a contention between Amazon and Microsoft. Amazon Web Services ("AWS") remains the biggest cloud infrastructure services provider in the $200bn US cloud market. According to Statista, AWS's market share stands at 33%, substantially ahead of second-place Microsoft Azure at 21%.

Should I Invest in Microsoft Stock?

There's no doubting that Microsoft has weathered many storms in its time and has the capacity to weather plenty more.

It's also true that the firm was one of the few to benefit from the pandemic in many ways, thanks to the surge in tech popularity, rather than suffering under it.

Given the recent share price drop, it's unclear if this is a good time to buy the dip, particularly as a global economic slowdown is on the cards. Nevertheless, investors with a long time horizon tend to ignore intermittent fluctuations in the markets and consider MSFT stock a good long-term investment, particularly as it has a dividend to bolster any price drops.

Article updated September 27, 2022.

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Author: Anna Farley

This article does not provide any financial advice and is not a recommendation to deal in any securities or product. Investments may fall in value and an investor may lose some or all of their investment. Past performance is not an indicator of future performance.

Anna Farley does not hold any position in the stock(s) and/or financial instrument(s) mentioned in the above article.

Anna Farley has not been paid to produce this piece by the company or companies mentioned above.

Digitonic Ltd, the owner of ValueTheMarkets.com, does not hold a position or positions in the stock(s) and/or financial instrument(s) mentioned in the above article.

Digitonic Ltd, the owner of ValueTheMarkets.com, has not been paid for the production of this piece by the company or companies mentioned above.

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