Microsoft Stock: Why it Is One of My Favorites

Microsoft Stock

On October 25, Microsoft (NASDAQ:MSFT) reported its Q1 2023 earnings report and beat both top and bottom-line estimates. Yet, the company dropped hard at market opening on October 26. This drop was mainly because of slowing growth in the cloud and a difficult outlook, which made investors nervous. As a long-term investor in Microsoft stock, these slowdowns did not worry me at all, as the long-term trajectory remains perfectly intact.

Microsoft has one of the best businesses in the world, driven by growing digitalization and a strong position in all its business segments. I see Microsoft as fairly recession resistant, because of the raw importance of its products and services. I cannot tell you whether this is the bottom, and the stock might just as well go lower over the coming quarters, but I can tell you that current prices are setting you up for solid returns over the next 10 years when Microsoft (NASDAQ:MSFT) will increase its moat in crucial industries such as cloud, gaming, and personal computing.

Q1 2023 Results Were Strong But Resulted in a Sell-off Anyways

In the three months ending September 30, Microsoft (NASDAQ:MSFT) reported revenue of $50.1 billion, an increase of 11% year-over-year (16% in constant currency). Operating income came in at $21.5 billion, an increase of just 6% year-over-over (15% in constant currency). This shows us Microsoft was still able to grow its revenue by double digits, despite a difficult comparison and multiple economic headwinds such as a slowdown in PC shipments and IT spending. Operating income took a bigger hit, though on constant currency this was still a solid 15% increase. So, for the top and bottom lines, I see absolutely no issues.

Net income for the quarter was $17.6 billion and this is a decrease of 14% compared to last year and still an 8% decrease on constant currency. The operating income margin was 43%. Earnings per share of $2.35 were down 13% year-over-year. 

I believe Microsoft (NASDAQ:MSFT) showed during this quarter how resilient its business is and that it will keep growing. I do see single digits growth for the next couple of quarters, but I believe this is already being reflected in the share price. Microsoft remained to see strong performance across the business and outperformed competitors in gaming, advertising, and product shipments.

Microsoft returned $9.7 billion to shareholders during the quarter in the form of dividends and share buybacks. Free cash flow for the quarter was $16.9 billion and therefore comfortably covering shareholder distributions.

Microsoft Stock Valuation and Balance Sheet

Microsoft (NASDAQ:MSFT) exited the latest quarter with $22.9 billion in cash and cash equivalents and over $84 billion in short-term investments, totaling $107.26 billion. A massive cash position to say the least. This is $2.5 billion more than 3 months ago. Long-term debt stood at $45 billion, which is $2 billion less than three months ago. Microsoft has a very clean balance sheet and ample cash to spend. This is nothing new and the company remains to strengthen its balance sheet even during these difficult times.

Microsoft also pays a solid dividend and keeps buying back its shares. Total shareholder distributions are well covered by free cash flow, as mentioned before. The dividend yield is not very high at 1.16%. More impressive is its dividend growth at a 5-year CAGR of close to 10%. t. Microsoft has been paying a dividend for 18 consecutive years now and has been increasing this for 17 consecutive years.

It will come as no surprise that Microsoft is never cheap. The incredible moat, strong financials, impeccable free cash flow generation, and strength in secular growth areas justify a higher valuation. MSFT stock is currently valued at a forward P/E ratio of 23.04, 20.6% below its 5-year average of 29. I believe the company is undervalued right now and trading at a discount following the drop in Q1 2023 results and the general drop of the markets since the start of the year. I view the current price as a strong buying opportunity for a long-term investment.

Bottom Line

Microsoft remains my number one stock pick, even after the recent quarterly results as I still see great upwards potential and the long-term investment thesis remains incredibly strong. Microsoft (NASDAQ:MSFT) has opened itself up to multiple high-growth sectors like Cloud and Gaming. It already has a strong position in the cloud by leveraging its Azure platform with its 21% share in global cloud computing and offering more abilities to its customers than other platforms like AWS. Microsoft is strengthening its position in gaming by acquiring Activision Blizzard and once given the green light, will become the third-largest enterprise in the gaming segment by revenue. The acquisition will open a door for Microsoft into other high-growth markets such as the Indian gaming market. All this growth is being supported by its legacy businesses in personal computing and other offerings such as Microsoft Office 365 and Windows, which remain massive income sources and cash machines with an incredible moat around them.

I view Microsoft as one of the strongest companies on the planet and it will continue to use its massive cash generation ability to fuel new growth areas and distribute cash to shareholders. Microsoft will be able to keep growing over the next couple of years at a CAGR of double digits. Analysts project growth to slow down next year, to then boost growth again in 2024 by double digits until 2028. At current prices, Microsoft is a strong buy and will be able to provide double-digit returns to investors. They will also continue to grow their dividend by 10%+ and therefore be a strong dividend growth investment.

I rate Microsoft a strong buy at current prices.

Featured Image-  Unsplash @ sawtooth_utopia

Please See Disclaimer

About the author: Stephanie Bedard-Chateauneuf has over six years of experience writing financial content for various websites. Over the years, Stephanie has covered various industries, with a primary focus on tech stocks, consumer stocks, health stocks, and personal finance. This stock lover likes to invest for the long-term. Stephanie has an MBA in finance.