Under the Spotlight: Microsoft (MSFT)

It has been 21 years since the iconic rolling green hills and blue skies of California occupied almost every PC user’s desktop wallpaper. In 2001, Microsoft was beginning the long road to recovery from the dot-com crash. Trading at a US$500b valuation, it wouldn’t be until 2017 that $MSFT made all-time highs again. Let’s put the phenomenal rise, fall and rise again of Microsoft under the spotlight.

While Apple may get all the headlines for its user-friendliness and intuitive experience, Microsoft was first to make computing accessible to the average person. Until Microsoft’s operating system came about, computers were largely reserved for those who could operate a terminal with command-line prompts only.

Microsoft launched a product called Altair BASIC, which allowed the creation of executable code for Altair 8800 microcomputers. However, it was not until the release of MS-DOS in 1980, that the company really started to make a name for itself in the industry.

With MS-DOS, Microsoft already had the highest sales volume of any operating system company, but the real game-changer for the company would be the release of Windows in 1985. With a much friendlier graphical interface than other systems available at the time, Windows quickly conquered millions of homes and offices.

If you are reading this on a computer, chances are you are already a Microsoft customer. With over 80% market share in the desktop operating system market, Windows has been a real revolution for both economies and societies around the world. Naturally, to reach a 12-figure market cap, Microsoft does more than just operating systems and hardware. On top of
Windows, Office and Xbox, the company also owns Skype, Outlook, LinkedIn, Azure and GitHub to name a few.

Getting Ready To Play

During the 1990s, Microsoft tried to gain market share in PC games, but the endeavour was never really financially relevant for the company. This would change with the launch of its first console in 2001, the Xbox. Initially without much success, the video game sold more than 24 million units worldwide, a low figure compared to the more than 155 million PlayStation 2 consoles that Sony sold.

Despite the relatively low success, lessons were learned and later Microsoft would compete on equal terms with its rival Sony. Currently, the gaming segments are responsible for more than US$16 billion in annual revenue for the company and expectations are that these numbers will only increase. Not only because historically the segment’s revenue has been growing at an average of 8% per year, but also due to important acquisitions that the company has been making.

The company has already acquired Mojang, creator of the Minecraft game in 2015 and ZeniMax Media in 2021. In January, Microsoft surprised the market by announcing that it would carry out the acquisition of Activision Blizzard for about US$69 billion. The company is responsible for several of the most played games in the world, such as the Call of Duty series and World of Warcraft.

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Getting Fresh

In the middle of the last decade, Microsoft was somewhat sidetracked by investors. The original FAANG (Facebook, Apple, Amazon, Netflix and Google) group of big tech stocks took a while to evolve into FANMAG.

The market feared that the company would struggle to reinvent itself and deliver robust growth. And it was no wonder: while Apple sold millions of iPhones and Alphabet capitalised on the sale of Android phones, Microsoft lagged behind in the smartphone race. Its partnership with Nokia (which would eventually turn into an acquisition) to create the Windows Phone was a sales failure and the product was eventually discontinued.

The situation would begin to change when in 2014 Satya Nadella, then VP of Research and Development at Microsoft, took over as the company’s CEO. Having worked in the company’s cloud computing division, Nadella would be responsible for making Azure and other Microsoft cloud products increasingly relevant to the company.

Currently, the cloud division generates more than US$60 billion of revenue for Microsoft annually, a segment that operates at a company high 70% profit margin. And the segment’s revenue has been growing at an average of about 50% per year. Microsoft currently holds about 20% of the market share in the cloud computing segment.

Aging Well?

At 47 years of age, Microsoft ($MSFT) has been showing other tech companies that they have plenty of new tricks for old dogs. With a gross profit margin of 67% and revenue
growing at an average of 13.8% over the past five years, it should come as no surprise that Microsoft ended up becoming the second most valuable company in the US.

The market doesn’t seem to get tired of being positively surprised by the company: in the last five years, Microsoft’s revenue was lower than estimated by market analysts in only two quarters. Earnings per share, however, have always been higher than estimates, which may comfort the investor who is startled to note that operating costs have been consistently increasing year on year.

Currently, revenue from all major business lines are growing. Cloud revenue? Growing. Xbox? Growing. Windows? Growing. Bing? Growing. LinkedIn? Growing. That doesn’t mean the company doesn’t face any challenges. For example, the cloud computing sector is extremely competitive, with well-established and capitalised players such as Amazon and Google also innovating and growing. Over the last 6 months, the stock is flat, being subject to wider market volatility.

This does not constitute financial advice nor a recommendation to invest in the securities listed. The information presented is intended to be of a factual nature only. Past performance is not a reliable indicator of future performance. As always, do your own research and consider seeking financial, legal and taxation advice before investing.